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ELIZABETH WILSON, barrister, explains the limited scope of the 'associated operations' rule by reference to a popular scheme.
IT IS COMMONLY suggested that the gift with reservation of benefit 'associated operation' rules apply to the gift of the debt in the 'double trust' home loan plan. (For more detailed discussion on this, see article by Ian Maston in Taxation, 20 September 2001 at pages 621 to 623.) This article sets out why, in my opinion, there is no problem.
ELIZABETH WILSON, barrister, explains the limited scope of the 'associated operations' rule by reference to a popular scheme.
IT IS COMMONLY suggested that the gift with reservation of benefit 'associated operation' rules apply to the gift of the debt in the 'double trust' home loan plan. (For more detailed discussion on this, see article by Ian Maston in Taxation, 20 September 2001 at pages 621 to 623.) This article sets out why, in my opinion, there is no problem.
Readers will recall that the scheme comprises two steps. The gift of the debt is Step (2) of the plan. Step (1) is the sale by the donor of his principal private residence to the donor's trust (an interest in possession trust of which he is life tenant) for full market value. The purchase price is paid by the issue of a loan note. The debt has a fixed repayment date, such as one month after the death of the donor. At Step (2) the donor gifts the loan note to the children's trust which is a life interest trust for his children and from which he is wholly excluded.
Associated operations
The problem which is often raised is this: Step (2) of the home loan plan comprises a gift of the debt to the children's trust. On the face of it no benefit is reserved in the debt because the donor is wholly excluded from benefit under the terms of the children's trust. However, paragraph 6 of Schedule 20 to the Finance Act 1986 provides that:
'(1) In determining whether any property which is disposed of by way of gift is enjoyed to the entire exclusion, or virtually to the entire exclusion, of the donor and of any benefit to him by contract or otherwise — ….
(c) a benefit which the donor obtained by virtue of any associated operations (as defined in section 268 of the 1984 Act) of which the disposal by way of gift is one shall be treated as a benefit to him by contract or otherwise.'
'Associated operations' are defined by section 268, Inheritance Tax Act 1984 as: 'any two or more operations of any kind, being –… (b) any two operations of which one is effected with reference to the other, or with a view to enabling the other to be effected or facilitating its being effected; … and "operation" includes an omission'.
There is little doubt that the sale at Step (1) and the gift at Step (2) are 'associated operations' since the first operation which creates the debt is effected by reference to, or for the purpose of facilitating the second operation, the gift of the debt. There is also little doubt that a benefit is in fact obtained by the donor under the donor's trust by virtue of Step (1). However, some conclude from this that paragraph 6(1) of Schedule 20 applies to deem a benefit to be reserved in the gift of the debt at Step (2). The reasoning is that paragraph 6(1) applies to the gift at Step (2) because a benefit is reserved or enjoyed as a result of Step (1) and Step (1) is associated with Step (2).
The statutory test
The answer to this problem is found in the statutory language itself. In order for a benefit to be reserved in a gift of property by virtue of paragraph 6(1) there must be 'a benefit which the donor obtained by virtue of any associated operations… of which the disposal by way of gift is one'. In the home loan plan the associated operations are the sale are Step (1) and the gift at Step (2). What is the benefit 'obtained by virtue of' Step (1) and Step (2)? The answer is 'none'. The only benefits obtained are by virtue of Step (1) alone. The statutory test is therefore not satisfied and no deemed reservation arises in the gift of the debt.
A comparison
The scope of paragraph 6(1) of Schedule 20 can be illustrated by varying the terms of the debt so that it is repayable on demand. If the donor gave such a debt away to the children's trust, then to the extent that a benefit is not reserved in the debt under general principles (because the debt is not enjoyed to the entire exclusion of the donor: see section 102(1)(b)), a benefit would be deemed to arise in that gift by paragraph 6(1). This is because the donor's continued enjoyment of the assets held by the donor's trust is wholly dependent upon the trustees of the children's trust not calling for the debt to be paid in full by the donor's trust. On the facts therefore, the benefit obtained under the donor's trust is 'obtained by virtue of' associated operations of which the gift of the debt is one. The associated operations are: the sale (which creates the debt), the gift of the debt, and the omission by the children's trustees to call for payment. It is for all these reasons that the debt is made repayable on a fixed date, such as one month after the death of the donor.
Elizabeth Wilson is a member of Pump Court Tax Chambers and co-author of Ray's Practical IHT Planning (a new edition of which is to be published shortly).
