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December 10, 2007

IHT planning in the light of the October 9th Pre-Budget Report

I have not posted over the 2 months as I have fully come to terms with the changes to the IHT regime as a result of the pre-Budget Report by the Chancellor on October 9th 2007 and the further proposals by the Tories to increase the IHT threshold of an individual to £1,000,000.00 if they enter power at the next election.

As a solicitor, a number of key advice points for clients have arisen as a result of the legislative changes:-

1. Whereas, until the beginning of October, we would have advised married clients with joint estates in excess of the current nil-rate band of £300,000.00, to enter into Wills incorporating a nil-rate band discretionary trust, my advice now is to go back to very simple Wills, where practical, so that the whole of the estate is left to the surviving spouse and thereafter to any children or other chosen beneficiaries upon the death of the survivor.

The advantage of using this simple type of Will is that under the new legislation, the surviving spouse (civil partner) will be automatically entitled to two nil-rate bands on their death which would currently equate to £600,00.00 but will definately increase to £700,000.00 by 2010 when the current individual nil-rate band increases to £350,000.00 in accordance with the governments declared plans.

If a client enters into the previously advised nil-rate band discretionary trust then the nil-rate band of the first spouse (civil partner) to die will be fixed at the current nil-rate band of £300,000. As such if one spouse died in November 2007 and created a nil-rate band discretionary trust under their Will and the surviving spouse died in May 2010, the survivor would only be entitled to their own £350,000.00 nil-rate band which added to the November 2007 nil-rate band of £300,000.00 means that the total tax-free sum available to the married couple totals £650,000.00 which is £50,000.00 less than with the simple Will solution and so could potetially add £20,000.00 to the inheritance tax due (IHT rate 40% of £50,000.00)

Of course, this potential tax saving could be significantly increased if a future government increased the planned IHT threshold as indicated.

The downside of entering into a simple Will as suggested is that the surviving spouse could change the beneficiaries of the Will but if this is a concern a life interest trust can be set up to overcome this issue. As always, the advice of a specialised solicitor is paramount.

Insofar, as the main reason to enter into the discretionary nil-rate band trust Will until this October was to save IHT whilst trying to ensure that the surviving spouse was properly looked after, I do not foresee the downside raised as a major issue.

2. The second big question to arise as a result of the pre-Budget Report is whether or not those clients who have already made Wills incorporating nil-rate band discretionary trusts need to change their Wills. Whilst, as a solicitor this could be said to be to my business advantage, I am actually advising my clients to leave their Wills as they stand.

The reason for this is twofold:-

a. It is conceivable that the nil-rate band may increase to £1,000,000.00 in the event of a Conservative Government being elected within the next 3 years and many of my clients will, as a result, not suffer an IHT liability whatever the type of Will that is in place.

b. Even if a death occurs and a nil rate band discretionary loan Will trust is put into effect, it is currently possible to exit the trust and revert to the same end result as would otherwise occur by way of a simple Will as set out in 1. above. This is allowed by virtue of Section 144 of the Inheritance Tax Act 1984 and requires the Trustees of the nil rate band trust entering into what is known as a Deed of Appointment in favour of the surviving spouse after three months but prior to two years after the date of death of the deceased person.

In conclusion and as a general rule, IHT planning has become considerably simpler as a result of the pre-Budget report for many clients. As a result, I am pleased to confirm that clients are more carefully considering how and to whom they wish to leave their estates rather than primarily concentrating on the saving of inheritance tax which must surely be a positive result.

October 09, 2007

The death of the "nil-rate band discretionary loan trust Will"

Yesterday, I stated that the Inheritance tax regime was likely to be a lot more advantageous by the time of the next election which was anticipated in 2009. Today, the Chancellor has instantly reacted to last week's Tory proposals by immediately implementing what I think will be known as transferable nil-rate bands between spouses/civil partners. You could certainly call the government politically cynical but for once, one can be magnanimous and simply accept that the government have listened to the voices of "middle Britain".

The new rules effective from today means that married couples and civil partners can now enjoy an inheritance tax allowance of up to £600,000.00 currently upon the death of the survivor of them.

Interestingly, the transfer will also benefit those spouses/civil partners who were previous to today already widows/widowers/surviving partners which is an unusually fair move by government.

In effect, the government has now made legal by statutory powers that which has until now been achieved by utilising the nil-rate band discretionary loan trust Will. As such, this form of Will in a stroke has effectively been consigned to the annals of legal history.

A number of thoughts are entering my head as to how exactly this new IHT regime will be implemented and I await the detailed rules which will no doubt be published in the next few days/weeks.

I look forward to posting further once the new rules are fully in place. In the meantime, I suspect there will be a good deal of silent rejoicing at the decision which saves married couples and civil partners up to £120,000 of inheritance tax.

October 08, 2007

IHT really does influence election dates

Further to George Osborne's proposals to raise the IHT threshold to £1,000.000.00 last week, I thought that IHT would become a central area of debate in what was seen as a forthcoming autumn election. What I did not foresee was that the effect of the announcement was to bounce the Tories in the opinion polls from no-hopers to potential winners within a few days and force Gordon Brown to climb down from calling an election, probably for at least 18 months.

A far more articulate writer than I and my favorite economics commentator, Anatole Kaletsky, neatly sum up the political repurcussions of the Tory IHT proposals in his Times column today.

The really interesting question from my point of view is now how the Labour Party will react to the Tory proposals. As I intimated in my last post, I really think the potential burden of IHT for the majority of taxpayers is likely to be reduced relatively quickly whatever political party is in power.

October 01, 2007

Vote Conservative and save up to £280,000.00 of Inheritance Tax !

I have just read the following report on the BBC website here. Assuming that the report is accurate, it would indicate that one of the first steps to be taken by a new Conservative Governement would be to increase the IHT nil-rate band threshold to £1,000,000.00 from the current £300,000.00.

This would represent a potential tax saving of up to £280,000.00 representing 40% of the proposed increase in the nil-rate band of £700,000.00.

As ever, there are a number of caveats:-

1. Current opinion polls indicate that the Conservatives have about as much chance of winning a general election as Spurs do of winning the Premiership. (I am an Arsenal fan!)

2. The full details of the Conservative plan are not yet sketched out and it maybe that the proposed full rise in the threshold will take place via a number of uplifts and/or more ominously when financial and budgetary constraints allow.

What we can be certain of is that IHT will be a prominent area of political battle at any forthccoming general election and the net result, whichever of the main parties wins, is likely to be a more attractive Inheritance tax environment. As a flip side, we will no doubt be paying more tax elesewhere to pay for any IHT savings.

September 11, 2007

Life interest trusts, second marriages and the inheritance tax trap

A fact of modern life in Britain is that many marriages end in divorce and that many people marry for a second, third time, or more.

Wherever there is a second or third marriage and the parties to the marriage have children from a previous marriage there is good reason to create a life interest trust at least in respect of any matrimonial home, which is usually the main asset of the married couple.

Using this type of trust, steps are taken to ensure that the matrimonial home is held as joint tenants-in-common (usually 50% shares each) and Wills are made to the effect that the surviving spouse will be able to reside in the share of the matrimonial home owned by the deceased spouse for the rest of their life (until re-marriage) and thereafter the share of the deceased spouse will fall into the hands of the the children of the first spouse to die. Usually there would also be provision for the surviving spouse to move to a new property on the same Trust terms.

This is generally seen as a fair settlement of matters as reasonable housing provision is made for the surviving spouse and the children of the deceased spouse have a remainder interest in the property which will usually be realised in a relatively short time, unless their parent married a much younger new spouse.

There are, however, inheritance tax repercussions from such a trust arrangement which are not always fully understood. Furthermore, despite widespread changes to Trust taxation as a result of the Finance Act 2006, the taxation of life interest trusts as created by Wills did not essentially change.

In simple terms, the inheritance tax situation of such cases is that on the death of the first spouse, the gift of the life interest in the deceased's share of the property to the surviving spouse is treated, not surprisingly as a tax-free gift due to the spouse exemption.

However, on the death of the surviving spouse, their interest in the life interest trust is treated as part of their taxable estate even though the beneficiaries of the trust after their death will be the beneficiaries named in the Will of the first spouse to die.

As an example, we can assume a situation where a wife of a second marriage and is given a life interest trust in a property owned by her deceased husband worth £300,000. The surviving wife also has assets in her own name worth £300,000.

Assuming all things being equal and the wife dies during the current tax year (2007/8) during which the nil rate band is £300,000, the wife's estate will be due to pay £120,000 tax.

This has been calculated as follows:-

Life interest in Trust Property - £300,000
Cash asset of her own - £300,000

Total - £600,000 less £300,000 nil-rate band (2007/8) =

£300,000 x 40% inheritance tax = £120,000 tax.

One half of the tax representing one-half of the value of the total estate monies will be payable by the trustees of the life interest trust and the remaining one-half by the executors of the wife's estate.

If the balance of the trust monies go to the children of the previously deceased husband then the beneficiaries of the deceased wife will just receive the cash assets of £300,000 less £60,000 tax.

The important note to realise is that if under the legislation contained under the Trustee Act 2006, the original life trust had been set up as a flexible discretionary trust with the surviving wife (in our example) being one of the discretionary beneficiaries, then in our example set out above no inheritance tax would have been payable.

This is due to the fact that the value of the discretionary trust would not be treated as part of the surviving wife's estate and as such the cash assets of the surviving assets in the sum of £300,000 would just have fallen within the nil-rate band and no inheritance tax would be payable.

As ever, each case must be treated on its merits but the tax implications must be considered and appropriate advice from a specialist tax professional obtained. It is still possible to save inheritance tax with appropriate planning.