As inheritance tax legislation evolves there has never been such a need for good quality advice says Phil Carroll
Regardless of the era or government, inheritance tax and related legislation, appears to regularly feature heavily on each political party's agenda. The current Government alone has made numerous changes to inheritance tax legislation, introducing Pre-Owned Assets Tax in 2004, changing the relevant property regime in 2006 and most recently creating the transferable nil rate band concept in 2008.
With inheritance tax laws evolving, advisers need to keep pace with any changes and adapt or reassess how they advise their clients. While tax advice provided to clients may be the best solution at the time, advisers must continue to review the advice they give to ensure the best solution is always in place.
Understanding the past
To provide quality advice it is essential that an adviser understands the changes in legislation over the years. A thorough knowledge of previous tax law will ensure that advisers understand what advice is likely to have been given in the past and how this must change to suit current laws.
For example, the latest Budget report brought in changes to nil rate bands.
While the changes to nil rate bands are favourable, they do promote much debate. The changes introduced in 2006 were very much viewed as revenue raising measures, transferable nil rate bands appear to unwind some of this tax take.
A recent review of Government statistics shows HMRC expects revenue to fall due to the 2008 introduction of the transferable nil rate bands. IHT had risen to £3.824 billion in the 2007/08 tax year but forecasts made for 2008/09 shows this falling by nearly 20%. This fall may be even greater given the fall in property prices and equity markets.
It could be argued that both nil rate bands could already be used through quality planning, so in effect, the Government just made planning in this area easier to do!
However, IHT still remains an area of great concern for many. Despite these changes there are still various solutions available and areas where advice is critical to ensure unnecessary tax is avoided.
Discounted gift schemes - an old friend. In recent years the guidance issued by HMRC on discounted gift schemes has added some comfort for those advising in this area. Discounted gift schemes along with loan trust arrangements have remained virtually unscathed from the 2006 and 2008 changes and offer a core planning tool where there remains a need for 'income'.
While discounted gift schemes remain like an old friend, advisers are still faced with the decision of choosing between a bare or a discretionary trust under these arrangements.
When comparing the simplicity of the bare trust with the flexibility of the discretionary trust, a key deciding factor may be tax. A bare trust might not have the exposure to entry, exit and future periodic charges, but the trust value is part of the beneficiary's estate and the beneficiary can not be changed.
If a beneficiary of a bare trust dies, the trust becomes liable to IHT even if the deceased has not received any benefit. Double taxation could also apply if the settlor of the trust dies within seven years of making the potentially exempt transfer (PET).
These issues are immediately avoided when using a settlor excluded discretionary trust but an entry charge of half the death rate could apply on creation of the trust. Although exit and periodic charges could apply, investors seeking advice may create multiple trusts on different days (the Rysaffe principle) which could significantly reduce the impact of such tax charges in the future.
Planning with the home
Planning with the family home has become increasingly complex. HMRC has continually challenged deceased estates and their advisers and where decisions go against them, legislation is often subsequently changed! The traditional route of severing the joint tenancy and then creating tenants in common with equal shares continues but as the recent Phizackerly case highlighted, source of monies is important when carving out such rights and leaving a half share under discretionary trust for children and surviving spouse or civil partner.
The importance of a will
Planning with wills still offers potential IHT planning opportunities. A major change in this area came in 2006 with the introduction of immediate post death interests (IPDI). IPDI arrangements are created on death and offer certain planning opportunities which will particularly appeal to those in second marriages. Often there can be children from previous relationships who, ultimately, the deceased would want to benefit from the capital while also continuing to provide their spouse or civil partner with an income for life and IPDI can cater for these requests.
The major benefit of an IPDI is that the arrangement is treated as an interest in possession with the spouse or civil partner as the 'income' beneficiary. This arrangement can also benefit from the spouse exemption and thus avoid the IHT charge of up to 40% on death. The interest in possession will form a part of the surviving spouse's estate but will not be treated as relevant property so exit and periodic charges will not apply. On death of the surviving spouse, the value of the interest in possession will be viewed as an asset of their estate and subject to IHT.
Nil rate bands
Many wills will require that a discretionary will trust is created to utilise the available nil rate band with the residue passing to the surviving spouse or civil partner. With the introduction of transferable nil rate bands, this strategy has been questioned by some.
Use of the nil rate bands remains effective for IHT planning, with the NRB used alongside the spouse or civil partner exemption. Thought should be given to whether it would be better to leave all the assets to the surviving spouse or civil partner and for the executors of their estate to claim the unused NRB. The argument being that the NRB is likely to increase over time and that the discretionary trust will potentially suffer exit and periodic charges.
However, this needs to be balanced by the potential risk of remarriage, assets leaving the family line, bankruptcy or the demands of means tested benefits, especially for long-term care provision in the future. Finally, the possibility of changes in legislation should not be ruled out!
Tax legislation is never at a standstill and as a result the opportunity to provide advice in this area remains rich. Although the future of the tax landscape remains uncertain, advisers can glean useful information from the past. With the constant backdrop of change and introduction of new legislation affecting new and old strategies, the opportunity and need for advice has never been so important.
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