IHT-Solutions

Why forging a Will is not a good idea!

A morality tale from Oxford

Please do not copy this at home !

Is this the ideal modern Will !

Modern life is complex and family life can be particularly complex.

As a practitioner in my professional practice, the ideal solution for any new Will or Trust is to prepare a document which meets the requirements of the testator or settler who are leaving their assets under the Will or Trust whilst also giving as much flexibility as possible within the documents to adjust for future changes of law and circumstance.

It is with this thought in mind, that I propose what I would call “the flexible life interest with remainder to discretionary trust Will” (quite a mouthful) as the ideal modern Will for many married couples and civil partners.

The main advantages of this type of Will can be summarised as follows:-

1. The flexible life interest Will Trust which will be created in favour of the surviving spouse or partner will still benefit from the new transferable IHT nil-rate band notwithstanding the recent changes to the tax treatment of trusts.

2. The flexible life interest Trust is flexible because it allows the Trustees to grant capital as well as income to the surviving spouse or partner, if required.

3. The creation of the life interest Trust should protect the testator’s capital assets from any claims made against it by a local Council or other authority if the surviving spouse or partner needs to go into long-term nursing care.

4. The life interest Trust also creates a situation which is sometimes known as the “21st Century chastity belt”. In other words the testator’s capital can be protected so that it eventually falls into the name of the testator’s children or other named beneficiaries rather than potentially into the pockets of a new spouse or partner.

5. Once the life interest Trust is terminated, the benefits of a discretionary trust arise which again give a good deal of flexibility to the surviving children or other named beneficiaries who can all potentially benefit from the discretionary Trust as named beneficiaries and are also likely to maintain control of the Trust as named beneficiaries.

The main benefits in this regard are as follows:-

a. If any of the children as potential beneficiaries of the discretionary Trust are subject to matrimonial or insolvency proceedings, their interest as potential beneficiaries of the discretionary Trust means that the funds are protected from ex-spouses and creditors of the potential beneficiaries.

b. In some circumstances, the surviving children may already have assets of their own which already exceed the nil-rate band available to them. In these circumstances, the right to loan monies or take occasional benefits from the discretionary Trust is a particularly tax-efficient means of utilising the Trust.

c. Of course, there maybe occasions when the potential beneficiaries simply wish to receive the capital from the Trust and subject to their consent the Trustees will have the relevant powers to simply appoint capital to the relevant beneficiaries and close the Trust, if applicable.

As always, the advice of a specialist practitioners should be sought before entering into a Will of this sort. I will aim to expand upon some of the themes raised within this post in the future.

An alternative way of saving IHT via your Will

Whilst nil rate band discretionary loan trusts are often the chosen course by practitioners within Wills to save clients inheritance tax, they are not the only option. I have seen a number of married clients recently whose joint estates exceed the nil rate band (currently £285,000) but not by a substantial amount, often by about £75,000. In addition, the vast majority of their estate is tied up in their matrimonial home.

I advise that on the basis that they at least survive until the 6th April 2007 when the inheritance tax threshold is raised to £300,000, their tax liability will be approximately £25000, on the death of the survivor of them. The perceived complexity of setting up a nil rate band discretionary loan trust for the relatively small potential tax liability means that the clients are not always keen to go down the discretionary trust route.

As an alternative, I have proposed Wills in the following manner which has found favour with some clients:-

For the example the following assumptions are made.

The value of the joint married couple's estate in question is £360,000 of which the matrimonial home is valued at £300,000.

The nil rate band is also £300,000 leaving a potential liability on the second death of £24,000 (40% of £60,000.)

The solution is for the matrimonial home to be held as joint tenants in common so that each party owns a 50% share in the property each and for the Will to give a gift of a percentage of the share of the property owned by the first party to die (say 40%) to the children of the couple.

In this example, the children on the first death will own a 20% share of the whole property (40% of one-half with a value of approximately £60,000). This, therefore, reduces the value of the survivor’s estate by a sufficient sum to avoid inheritance tax whilst still enabling the survivor to remain in the matrimonial home. The share owned by the children will be too small for them to force a sale of the property without the consent of the survivor

If the survivor wishes to downsize, then the children will get their relevant cash sum out of the net sale proceeds but the survivor will still generally have sufficient assets left to live comfortably.

As the element of the property left to the children is relatively small, no real capital gains tax issues arise for the children.

Evidently, each case must be judged on its own merits and, in particular, a couple must be confident that they are comfortable with making a gift of this nature on the first death and that they otherwise have sufficient financial resources and pension income in place for the survivor.

Taking all these points into consideration, Wills of the type envisaged by this post (and indeed a Deed of Variation within two years of a first death) do offer a relatively simple inheritance tax solution for smaller, property heavy estates.

The nil-rate band discretionary loan Trust

For practitioners, the nil rate band discretionary loan trust Will is ordinarily the most appropriate means of setting up the affairs of a married couple or civil partners in order to make a potential tax saving of up to £114,000 (£120,000 from April 6th 2007).

The problem as indicated by this post's title is that this type of Will is complex and there is some difficulty in explaining to the lay person the mechanism by which this type of Will should work, after allowing for potential government intervention in the scheme.

In conjunction, with Amy Muncer, a newly qualified solicitor within my department, we have prepared a fact sheet for our clients which aims to simplify the nil rate band discretionary loan trust Will scheme so far as possible. Hopefully, we have achieved our aim but any constructive criticism will be taken on board.

The fact sheet reads as follows:-

Wills including Nil Rate band Discretionary loan Trusts

This type of will is usually suitable for a married couple or civil partners whose estate is valued over the nil rate band (this is currently £285,000 but will be rising to £300,000 in April 2007) regardless of whether or not the money is tied up in their home.

Currently anything that you pass to your spouse or civil partner under your will is exempt from inheritance tax. This means that if you have set up a will whereby everything goes to your surviving spouse* no inheritance tax will be payable on the first death, but one nil rate band exemption will be wasted. On the second death the value of the estate passing to your residuary beneficiaries (i.e. your children) will be much higher. Inheritance tax of 40% will have to be paid on the value of the estate over the nil rate band.

By setting up your will to include a nil rate band discretionary trust you can make full use of both of your nil rate bands and potentially save up to £120,000 in inheritance tax from April 2007.

How will a will including a Nil Rate Band Discretionary Trust Work?

The will works as follows:-

• You sever the tenancy of your home so that you hold the property as tenants in common so that your share of the property does not pass to your spouse* automatically by survivorship.

• A legacy of the value of the nil rate band will be left under each of your wills to a discretionary trust. The remainder of your estate will be left to your surviving spouse.

• The trustees of the trust can be the surviving spouse* and at least one other. The other trustees may be the persons that you wish to benefit from your residuary estate (for example your children) or an independent third party such as your solicitor.

• The potential beneficiaries of the trust will be the surviving spouse* together with any other persons that you wish to benefit from your residuary estate.

• On the first death, if the surviving spouse* has sufficient funds available these may be paid into the trust up to the value of the nil rate band. This may not be the case if the money is tied up in the matrimonial home. Instead the trustees can accept up to half the value of the matrimonial home. This is secured by a simple IOU from the surviving spouse* or an equitable charge over the property in favour of the trustees.

• No inheritance will be payable on the first death as the value of the half share of the house paid to the trust ( by way of the charge or IOU) comes within the nil rate band, and the remainder of the estate passes to the surviving spouse*, therefore attracting the spouse exemption.
• On the second death the property will pass fully to the residuary beneficiaries but inheritance tax will not be payable on the half that has already been passed to the discretionary trust (albeit secured by equitable charge or IOU)

• The discretionary trust that is set up on the first death will need to be reviewed annually so that it is seen as a properly constituted trust by the Inland Revenue, but other than this little work is generally involved by the trustees.

Benefits of this type of will:-

~ You are able to make full use of both nil rate bands therefore making a potential inheritance tax saving of up to £120,000!
~ You can avoid inheritance tax without having to sell the matrimonial property on the death of the first spouse.*
~ Although the residuary beneficiaries have an interest in the trust they do not actually own a share of the matrimonial property outright so they are not able to enforce a sale.
~ Whilst within the trust, the property is not actually seen to be part of the residuary beneficiary’s assets which should avoid any claims over the property by divorcing spouses or bankruptcy.
~ The surviving spouse* may move homes during the trust period.
~ Gifts can be made to other beneficiaries of the trust during the trust period if agreed.

* All references to a spouse include a civil partner

Why a Will Works

There are many reasons to make a Will, not least because a well-drafted Will allows gifts to be made either directly or by way of a suitable Trust that could currently save up to £114,000.00 of inheritance tax.

Over and above inheritance tax factors, of course, the making of a Will grants you the opportunity in one document to put a number of matters relating to your affairs in order by way of what can be seen as additional benefits.

For instance:-

* The Will enables you to appoint a named person or persons who you trust to be your executors and trustees to administer your estate and any trusts created by the terms of your Will.

* The Will allows specific gifts to be made eg. personal jewellery.

* The Will allows guardians to be appointed for infant children.

* The Will allows funeral directions to be given, if applicable.

* The Will allows you clearly to set out how the net balance of your estate ( the residuary) is to be distributed.

Without a Will, these matters are dictated by the law and, in particular, the laws of intestacy and in many cases this may result in a result far from that intended.

As just one example, the intestacy laws do not currently recognise unmarried couples. As such, an unmarried partner would have no right to any part of the deceaced partners' assets under law and could only possibly recover any assets by recourse to the Courts.

Alternatively, in the case of a married couple with children, the surviving spouse is only currently entitled to the first £125,000 of the deceased spouse's sole assets plus a life interest (an income) from the remaining half.

The potential difficulties arising are legion.

So, my New Year advice is to make or update your Will with a Solicitor specialising in this area of work to both save inheritance tax where possible and to ensure your affairs are in order.