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Grandmother died in May 1999 and left her entire estate, comprising her principal private residence and valued at £150,000, equally to her son and daughter. No inheritance tax is payable.
Grandmother died in May 1999 and left her entire estate, comprising her principal private residence and valued at £150,000, equally to her son and daughter. No inheritance tax is payable.
The son died in January 2001 and left his entire estate to his wife. The former home of grandmother has been vacant since her death, but has appreciated to a current value of £300,000, or possibly £600,000 if sold with development potential. The son's widow receives a capital gains tax 'uplift' on the property at his death, but the daughter holds her 50 per cent share at grandmother's probate value.
The following scheme is being considered:
* A deed of variation for grandmother's will to the effect that 100 per cent of her estate (comprising the property) is transferred to her (deceased) son.
* A sale of the site during the administration period of the son's estate reducing the tax charge from 40 per cent to 34 per cent.
* A deed of variation of the son's will, passing cash back to his sister to 'restore' her 50 per cent ownership of the property.
* An arrangement to pass the benefit from the son's 50 per cent share of the property to his two adult sons, as his widow does not need the funds.
Can readers advise on:
– Whether these proposals are 'circular' and liable to attack under anti-avoidance legislation.
– If feasible, what time gaps between transactions would be appropriate.
– Any alternative schemes, if the above arrangements are unworkable.
(Query T15,785) – D.A.
By themselves proposed steps 1, 2 and 4 appear uncontroversial. It is settled that a variation can be executed even if an original beneficiary has died. In this case the variation of the mother's will would be effected by the son's widow as the sole beneficiary of his estate and would normally include the son's executors and the mother's executors. If the daughter's half-share is to be dealt with, then she would also be a party to the variation.
As 'D.A.' has identified, from 6 April 1998 the personal representatives' rate of capital gains tax is 34 per cent (prior to that date it was only basic rate).
The 'arrangement' to pass value to the son's own sons would presumably be achieved by the widow making potentially exempt transfers of assets she had retained from her late husband's estate.
The fly in the ointment is step 3 as this would appear to include what is usually referred to as 'extraneous consideration', the effect of which would be to deny retrospective inheritance tax treatment to the variation of the grandmother's will. Subsection 142(3), Inheritance Tax Act 1984 provides that subsection (1) shall not apply to a variation made for any consideration other than that consisting of a variation or disclaimer affecting another disposition of property in the same estate; it would appear in the present case that the daughter would only enter into the variation of the grandmother's will in consideration of the pre-ordained variation of the son's will in her favour. A similar, but not identical, provision is contained in section 62(8), Taxation of Chargeable Gains Act 1992, which denies retrospective capital gains tax treatment.
If the proposals are to be implemented in full, the first variation must be made by May 2001 and the second by January 2003. In the circumstances, the greater the time gap between them the better. It would also be helpful if the widow obtained independent advice before effecting the second variation. – Lacuna.
The proposals potentially run into difficulties in two areas:
(1) The principle (per Russell v Commissioners of Inland Revenue [1988]) that the property the disposition of which is sought to be varied must not itself have been the subject of a previous variation within section 142, Inheritance Tax Act 1984.
(2) The benefits of section 142 treatment for inheritance tax purposes are denied if a variation is made for any consideration in money or money's worth other than as provided for in section 142.
Whilst with careful drafting the former ought not to present insuperable difficulties, the latter condition presents challenges in terms of the provision proposed to be made from the son's estate for the daughter. If the daughter re-routes her half share in her mother's property through her brother's estate, the 'understanding' that she will subsequently benefit from her brother's estate may well be seen as section 142 consideration. At the very least one might expect enquiry to be made as to whether before the variation there was any discussion between the parties as to how the property redirected should be dealt with, as a precursor to an argument that the whole arrangement is vitiated by application of the Ramsay principles.
As far as the variation in the mother's estate is concerned, it is suggested that this be in a form providing that the mother's will should be read so that the whole of the residue of her estate devolves to her son. There is no requirement that that estate still be in the course of administration; indeed section 142(6) expressly provides that a deed can be entered into '... whether or not the administration of the estate is complete or the property concerned has been distributed in accordance with the original dispositions'.
As indicated in the query, the son would then have become the sole beneficial owner of the mother's home such that the property was an asset of his estate and thus secures the benefit of the capital gains tax-free uplift in value at death under section 62, Taxation of Chargeable Gains Act 1992, bringing in the appreciation in value to at least £300,000. If the property is sold within, say, a year of the son's death, for a higher price, it ought to be possible to relate that price back to the date of the son's death on the general argument that the best indicator of the property's market value at the date of the son's death was the price at which it was sold shortly after the death, in which case no gain would arise on the later disposal.
The suggested form of variation by the son's widow would be by way of a proportion of the value of the son's estate (perhaps the nil rate band) devolving into a discretionary trust, of which the deceased's sister and his children could be the potential beneficiaries, and with residue estate passing to the widow absolutely; in light of the Ramsay/consideration issues, the trustees of the discretionary trust should be completely independent of the family; so perhaps members of the firm drawing up the papers, who will nonetheless be aware of the relevant background.
In determining the amount to be placed into the discretionary trust, the mathematics may be such that some inheritance tax could be advantageously incurred against the value of the property so as then to be able to apply to substitute the property's sale value as its value for inheritance tax purposes under section 191, Inheritance Tax Act 1984, leading to ascertainment of the property's capital gains tax base cost at this latter higher value under section 274, Taxation of Chargeable Gains Act 1992.
There then remains the exercise of the relative discretionary power of appointment by the trustees of the discretionary will trust. There is a two-year period of grace under section 144, Inheritance Tax Act 1984, and it is thought that this might be used to advantage so that it can be said that the trust has a substantial reality with its own tax consequences and accordingly that Ramsay cannot apply to the arrangement.
Of course, from the daughter's point of view there is no advance guarantee that she would receive anything from the discretionary trust, or if she does that this will necessarily represent a one half share in the value at which the property is eventually sold. Indeed, it may be that the discretionary trust 'pot' would not be sufficiently large if it is limited to the value of the son's available inheritance tax nil rate band. Thus, the daughter would need full independent advice as to the implications of these proposals.
Subject to this, the widow will be left with surplus funds from the residue of her husband's estate which she can simply gift to her two adult children in the form of a potentially exempt transfer for inheritance tax purposes. – Digby Bew.
