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06 December 2000
The Philosopher's Stone (without Harry Potter)?
Mike Thexton MA, FCA, ATII speculates on the changes of securing over 100 per cent tax relief by means of an investment in a venture capital trust.
A few years ago, a cunning plan was devised (by James Kessler, I believe) that appeared to achieve almost 100 per cent tax relief for a donation to charity.
It worked like this:
Part of a legacy which was chargeable to inheritance tax should be given to charity by deed of variation, saving 40 per cent inheritance tax on the gift.
Mike Thexton MA, FCA, ATII speculates on the changes of securing over 100 per cent tax relief by means of an investment in a venture capital trust.
A few years ago, a cunning plan was devised (by James Kessler, I believe) that appeared to achieve almost 100 per cent tax relief for a donation to charity.
It worked like this:
Part of a legacy which was chargeable to inheritance tax should be given to charity by deed of variation, saving 40 per cent inheritance tax on the gift.
The Philosopher's Stone (without Harry Potter)?
Mike Thexton MA, FCA, ATII speculates on the changes of securing over 100 per cent tax relief by means of an investment in a venture capital trust.
A few years ago, a cunning plan was devised (by James Kessler, I believe) that appeared to achieve almost 100 per cent tax relief for a donation to charity.
It worked like this:
Part of a legacy which was chargeable to inheritance tax should be given to charity by deed of variation, saving 40 per cent inheritance tax on the gift.
The deed of variation would be ignored for income tax purposes, so the gift could be regarded as a gift of cash by the person signing the deed.
The cash gift would be eligible for Gift Aid relief, which would give (at the time) 25/75 of the net amount to the charity, and 15/75 of the net amount to the donor.
A gift of £1,000 would save £400 in inheritance tax; would give £333 extra cash to the charity; and £200 in income tax back to the donor. Total tax savings of £933 on a gift of £1,000 (although not all of the tax savings would accrue to the donor, so the appearance of 93.3 per cent relief has something of smoke and mirrors about it).
The Inland Revenue suggested that the Gift Aid relief would be disallowed where the donor received a benefit as a result of making it (section 25(2)(e), Finance Act 1990). The inheritance tax saving would be regarded as such a benefit. This could certainly be argued (and indeed it was successfully argued in St Dunstan's v Major SpC 127) where the legacy was the residue of the estate (because the residuary beneficiary would receive the inheritance tax saving), but it would be harder for the Revenue to sustain this argument where a specific legacy was assigned away, increasing the residuary entitlement of a different beneficiary. Nevertheless, the idea seems to have fallen out of the public eye.
Sympathetic relief
Another odd planning idea from the early 1990s (attributed to Tony Foreman) was published by the Revenue itself. There was concern about the situation of bondholders who had exchanged shares for loan stock in the circumstances covered by section 116, Taxation of Chargeable Gains Act 1992, where the loan stock had become worthless. The insult of having lost all the value of the loan stock on the date of exchange, with no loss relief because the loan stock was exempt from capital gains tax, would be compounded by being liable for capital gains tax on the 'frozen gain' which would be triggered by a disposal of the qualifying corporate bonds. As the liquidation of the company would be such a disposal, it seemed impossible to avoid the charge, unless the Revenue chose to be merciful.
The unusual mercy of the Revenue arrived in the form of Revenue Interpretation 23. This states, without giving any reasons, that a gift to charity does not ('in the Revenue's view') trigger the frozen gain. This means that the unfortunate bondholder has to pop down to the Oxfam shop with the worthless bonds and assign them before the liquidation is completed. This will not make the loss allowable, but at least it will make the gain not chargeable.
This is questionable: section 257, Taxation of Chargeable Gains Act 1992 'exempts' gifts to charity by disapplying the requirement to value disposals at market value. The disposal of the bonds to charity would in any case be exempt as far as the bonds are concerned, so there would be no need to bring in their market value – there is simply a disposal of the bonds, which would appear to trigger the gain as required by section116(10). Section 116(11) states that the gain is not triggered on a disposal between husband and wife (the frozen gain is instead transferred to the new owner), but it does not refer to section 257.
On the other hand, if the Revenue does not want to charge such a disposal, who would complain? - only those, perhaps, who fail to jump through the right hoops. The Revenue appears to have issued the interpretation because it was felt that the tax charge was unfair, so a way out should be offered – but it would be simpler just to state that the frozen gain would not be charged in a situation where the bonds lost their value.
100 per cent relief
Now consider the following situation. A taxpayer has a portfolio of investments with a market value of £100,000, and gains in them of £20,000. The taxpayer also has substantial taxable income and other gains. The investments have an effective value of £92,000, because of the potential liability of £8,000 on the realisation of the gain. The taxpayer wishes to make a gift to charity of £20,000, at the lowest possible cost after tax relief.
Suppose the investments are all sold; £80,000 is invested in other shares, and £20,000 is subscribed for new venture capital trust shares. This gives an immediate income tax saving of £4,000, which will be 'permanent' if the venture capital trust shares are held for three years. The capital gain is deferred until the those shares are disposed of.
Three years later, suppose the venture capital trust shares are still worth £20,000. They are quoted shares, so it is now possible to give them to charity and claim an income tax deduction for the value of the gift. That would be an income tax saving in the year of gift of £8,000.
If (and this is a big 'if') the Revenue were to accept that its Interpretation 23 also applied to the disposal of these shares with a frozen gain in them, the deferred gain would also disappear. This would mean that the £8,000 capital gains tax liability would not crystallise. The donor would have the £80,000 portfolio of shares, plus £12,000 in income tax relief, making the £92,000 effective value of the portfolio at the outset; the charity would have £20,000 in venture capital trust shares. The £20,000 gift would not have any effective cost to the donor.
If the £20,000 is deducted in a year in which it also drags down some of the donor's dividend income from higher rates (at 32.5 per cent) into the basic rate band (at 10 per cent), the well-known 'marginal rate relief at over 40 per cent' would arise (22 per cent saving on the general income, and 22.5 per cent saving on the higher rate liability on dividends). It appears that it would effectively create over 100 per cent relief – on the above figures, the donor would end up with a maximum of £92,900, rather than the £92,000 starting point.
Would this work?
There is a general principle in life that 'if something looks too good to be true, then it isn't true'. It is unlikely that the Revenue would accept 100 per cent tax relief, let alone 104.5 per cent tax relief, for a gift to charity. It might argue that the venture capital trust relief was denied at the outset because the whole scheme was entered into to avoid tax (see section 151A(2)(b), Taxation of Chargeable Gains Act 1992); or, more likely, it would apply the rules of paragraph 3 of Schedule 5C to the Taxation of Chargeable Gains Act 1992 on disposals of venture capital trust shares with more rigour than the rules of section 116(10) on the disposal of qualifying corporate bonds (although the wording of the two provisions does not appear to justify any difference of treatment). Also, the scheme would have to run over three years, and the value of the venture capital trust shares would probably change within that time.
Revenue Interpretation 23 again!
Without wishing to promote an excess of enthusiasm for the above idea, compare for one moment the situation which would arise if the tax avoider client found that, after three years, his venture capital trust shares were worth, not the £20,000 paid for them, but a meagre £100. The shares are exempt for capital gains tax purposes but any disposal of them would bring into charge the frozen gains of £8,000 whilst producing virtually nothing in sale proceeds. The client would then be hopeful that Revenue Interpretation 23 would be applied by the Revenue if he were to give the shares away to charity. It is hard to see why the Revenue should treat this differently from a gift of qualifying corporate bonds. Logically therefore any disposal of venture capital trust shares, whether they have value or not, should benefit from the same treatment.
Great generosity
However, this pipe dream does illustrate three useful points. These are:
The new income tax deduction for gifts of quoted shares to charity is extremely generous, particularly where the share is heavily loaded with gain – the gain disappears, and income tax is saved on the value, giving an effective combined tax saving of up to 80 per cent on the gift which is much more generous than gift aid.
The ability to concentrate gains in particular assets through claiming venture capital trust reinvestment relief can be very useful – instead of having a portfolio with gains representing 20 per cent of the total value, where triggering a small gain requires disposal of a much larger monetary amount, the gain is all attached to a single asset, and planning may be able deal with it more easily.
Venture capital trust relief is very generous, if you can find a decently managed fund.
Mike Thexton MA, FCA, ATII speculates on the changes of securing over 100 per cent tax relief by means of an investment in a venture capital trust.
A few years ago, a cunning plan was devised (by James Kessler, I believe) that appeared to achieve almost 100 per cent tax relief for a donation to charity.
It worked like this:
Part of a legacy which was chargeable to inheritance tax should be given to charity by deed of variation, saving 40 per cent inheritance tax on the gift.
The deed of variation would be ignored for income tax purposes, so the gift could be regarded as a gift of cash by the person signing the deed.
The cash gift would be eligible for Gift Aid relief, which would give (at the time) 25/75 of the net amount to the charity, and 15/75 of the net amount to the donor.
A gift of £1,000 would save £400 in inheritance tax; would give £333 extra cash to the charity; and £200 in income tax back to the donor. Total tax savings of £933 on a gift of £1,000 (although not all of the tax savings would accrue to the donor, so the appearance of 93.3 per cent relief has something of smoke and mirrors about it).
The Inland Revenue suggested that the Gift Aid relief would be disallowed where the donor received a benefit as a result of making it (section 25(2)(e), Finance Act 1990). The inheritance tax saving would be regarded as such a benefit. This could certainly be argued (and indeed it was successfully argued in St Dunstan's v Major SpC 127) where the legacy was the residue of the estate (because the residuary beneficiary would receive the inheritance tax saving), but it would be harder for the Revenue to sustain this argument where a specific legacy was assigned away, increasing the residuary entitlement of a different beneficiary. Nevertheless, the idea seems to have fallen out of the public eye.
Sympathetic relief
Another odd planning idea from the early 1990s (attributed to Tony Foreman) was published by the Revenue itself. There was concern about the situation of bondholders who had exchanged shares for loan stock in the circumstances covered by section 116, Taxation of Chargeable Gains Act 1992, where the loan stock had become worthless. The insult of having lost all the value of the loan stock on the date of exchange, with no loss relief because the loan stock was exempt from capital gains tax, would be compounded by being liable for capital gains tax on the 'frozen gain' which would be triggered by a disposal of the qualifying corporate bonds. As the liquidation of the company would be such a disposal, it seemed impossible to avoid the charge, unless the Revenue chose to be merciful.
The unusual mercy of the Revenue arrived in the form of Revenue Interpretation 23. This states, without giving any reasons, that a gift to charity does not ('in the Revenue's view') trigger the frozen gain. This means that the unfortunate bondholder has to pop down to the Oxfam shop with the worthless bonds and assign them before the liquidation is completed. This will not make the loss allowable, but at least it will make the gain not chargeable.
This is questionable: section 257, Taxation of Chargeable Gains Act 1992 'exempts' gifts to charity by disapplying the requirement to value disposals at market value. The disposal of the bonds to charity would in any case be exempt as far as the bonds are concerned, so there would be no need to bring in their market value – there is simply a disposal of the bonds, which would appear to trigger the gain as required by section116(10). Section 116(11) states that the gain is not triggered on a disposal between husband and wife (the frozen gain is instead transferred to the new owner), but it does not refer to section 257.
On the other hand, if the Revenue does not want to charge such a disposal, who would complain? - only those, perhaps, who fail to jump through the right hoops. The Revenue appears to have issued the interpretation because it was felt that the tax charge was unfair, so a way out should be offered – but it would be simpler just to state that the frozen gain would not be charged in a situation where the bonds lost their value.
100 per cent relief
Now consider the following situation. A taxpayer has a portfolio of investments with a market value of £100,000, and gains in them of £20,000. The taxpayer also has substantial taxable income and other gains. The investments have an effective value of £92,000, because of the potential liability of £8,000 on the realisation of the gain. The taxpayer wishes to make a gift to charity of £20,000, at the lowest possible cost after tax relief.
Suppose the investments are all sold; £80,000 is invested in other shares, and £20,000 is subscribed for new venture capital trust shares. This gives an immediate income tax saving of £4,000, which will be 'permanent' if the venture capital trust shares are held for three years. The capital gain is deferred until the those shares are disposed of.
Three years later, suppose the venture capital trust shares are still worth £20,000. They are quoted shares, so it is now possible to give them to charity and claim an income tax deduction for the value of the gift. That would be an income tax saving in the year of gift of £8,000.
If (and this is a big 'if') the Revenue were to accept that its Interpretation 23 also applied to the disposal of these shares with a frozen gain in them, the deferred gain would also disappear. This would mean that the £8,000 capital gains tax liability would not crystallise. The donor would have the £80,000 portfolio of shares, plus £12,000 in income tax relief, making the £92,000 effective value of the portfolio at the outset; the charity would have £20,000 in venture capital trust shares. The £20,000 gift would not have any effective cost to the donor.
If the £20,000 is deducted in a year in which it also drags down some of the donor's dividend income from higher rates (at 32.5 per cent) into the basic rate band (at 10 per cent), the well-known 'marginal rate relief at over 40 per cent' would arise (22 per cent saving on the general income, and 22.5 per cent saving on the higher rate liability on dividends). It appears that it would effectively create over 100 per cent relief – on the above figures, the donor would end up with a maximum of £92,900, rather than the £92,000 starting point.
Would this work?
There is a general principle in life that 'if something looks too good to be true, then it isn't true'. It is unlikely that the Revenue would accept 100 per cent tax relief, let alone 104.5 per cent tax relief, for a gift to charity. It might argue that the venture capital trust relief was denied at the outset because the whole scheme was entered into to avoid tax (see section 151A(2)(b), Taxation of Chargeable Gains Act 1992); or, more likely, it would apply the rules of paragraph 3 of Schedule 5C to the Taxation of Chargeable Gains Act 1992 on disposals of venture capital trust shares with more rigour than the rules of section 116(10) on the disposal of qualifying corporate bonds (although the wording of the two provisions does not appear to justify any difference of treatment). Also, the scheme would have to run over three years, and the value of the venture capital trust shares would probably change within that time.
Revenue Interpretation 23 again!
Without wishing to promote an excess of enthusiasm for the above idea, compare for one moment the situation which would arise if the tax avoider client found that, after three years, his venture capital trust shares were worth, not the £20,000 paid for them, but a meagre £100. The shares are exempt for capital gains tax purposes but any disposal of them would bring into charge the frozen gains of £8,000 whilst producing virtually nothing in sale proceeds. The client would then be hopeful that Revenue Interpretation 23 would be applied by the Revenue if he were to give the shares away to charity. It is hard to see why the Revenue should treat this differently from a gift of qualifying corporate bonds. Logically therefore any disposal of venture capital trust shares, whether they have value or not, should benefit from the same treatment.
Great generosity
However, this pipe dream does illustrate three useful points. These are:
The new income tax deduction for gifts of quoted shares to charity is extremely generous, particularly where the share is heavily loaded with gain – the gain disappears, and income tax is saved on the value, giving an effective combined tax saving of up to 80 per cent on the gift which is much more generous than gift aid.
The ability to concentrate gains in particular assets through claiming venture capital trust reinvestment relief can be very useful – instead of having a portfolio with gains representing 20 per cent of the total value, where triggering a small gain requires disposal of a much larger monetary amount, the gain is all attached to a single asset, and planning may be able deal with it more easily.
Venture capital trust relief is very generous, if you can find a decently managed fund.
