Replies to Queries - 3 - Election selection

A beneficiary of a deceased's estate has sold the stock exchange investments that he received as part of his entitlement to residue, reporting a substantial capital gain in his tax return. Following completion of the administration of the estate, the beneficiary varied the will by deed to give the investments, which are now cash, to his son. An election under section 142, Inheritance Tax Act 1984 was made in the deed for inheritance tax purposes.

Could readers advise whether an election under section 62, Taxation of Chargeable Gains Act 1992 would also be appropriate. If a section 62 election deems the variation to be effected by the deceased, does this mean that the beneficiary's son is deemed to have disposed of the investments?

Where a will is varied during the administration period, would readers always include in the deed a section 62 election in case the Revenue takes the 'chose in action' argument?

(Query T16,054) - Gateshead Angel.

Where within the period of two years after a person's death any of the dispositions effected by his will of the property comprised in his estate immediately before his death are varied, or the benefit conferred by any of those dispositions is disclaimed, by an instrument in writing made by the persons or any of the persons who benefit or would benefit under the dispositions, section 142, Inheritance Tax Act 1984 applies as if the variation had been effected by the deceased or, as the case may be, the disclaimed benefit had never been conferred.

The instrument in writing is commonly referred to as a deed of variation.

The variation or disclaimer has no effect for capital gains tax purposes, but if an election is made under section 62(7), Taxation of Chargeable Gains Act 1992, section 62(6) provides that the variation or disclaimer shall not constitute a disposal for the purposes of this Act, and applies section 62 as if the variation had been effected by the deceased or, as the case may be, the disclaimed benefit had never been conferred. That takes us back to section 62(1), which determines that the assets of which a deceased person was competent to dispose shall be deemed to be acquired on his death by the personal representatives or other person on whom they devolve for a consideration equal to their market value at the date of the death, but shall not be deemed to be disposed of by him on his death.

For the purposes of general law, if a deed of variation is executed after assets have vested in a legatee but after the assets have been disposed of by the legatee then the disposal proceeds from the disposal of the assets pass from the legatee to the assignee. If an election is made under section 62(7), Taxation of Chargeable Gains Act 1992 the disposal by the legatee is no longer treated as an occasion of charge for the legatee. Instead it is treated as an occasion of charge by the assignee.

The point is confirmed by the Inland Revenue in its guidance to Inspectors in the Capital Gains Tax Manual at paragraph CG31631.

If no election is made under section 62(7), there is no retrospective variation for capital gains tax purposes. If the assets have been sold any gain or loss arising on the disposal remains chargeable on the legatee and only the proceeds of sale pass to the assignee.

This point is confirmed in the Capital Gains Tax Manual at paragraph CG 31920.

The choice of whether or not to make the election under section 62(7) will depend, therefore, first on whether the disposal of the investments gave rise to gains or losses and secondly whether it would be more beneficial for those gains or losses to be attributable to father or to the son. If it is beneficial for the father to have them no election should be made, if it is more favourable for the son to have them an election should be made. The choice will always be one that has to be made in the light of the legatees and assignees' personal circumstances in every case.

A deed of variation will not be effective for inheritance tax purposes and an election under section 62(7) will not be effective for capital gains tax purposes if the variation is made for any consideration in money or moneys worth.

Whilst the assets of the estate remain vested in the personal representatives, all that a legatee holds is a chose in action, being the right to have the estate correctly administered in due course. Where a legatee executes a deed of variation in return for valuable consideration the legatee is contracting to deliver to the assignee the assets he or she will eventually receive from the estate.

The Revenue argues that, in these circumstances, what the legatee has disposed of is a future chose in action and the legatee is treated as having made a disposal for capital gains tax purposes on the date that the non-retrospective variation was effected.

At the date of the variation it will not be known what assets will eventually vest from the estate to the legatee for onward transmission to the assignee and it will not be possible to compute the capital gain arising. The gain can only be computed when the assets finally do vest.

- Taxplanet

It is assumed that the form of the variation will be such as to have deemed the testator to have left a specific legacy of the investment portfolio to the original residuary beneficiary's son rather than, say, a variation expressed in fractional terms of residue or in monetary terms as a pecuniary legacy. Provided that a clear residue still remains for the original residuary beneficiary after the new specific legacy, creation of a specific legacy of a residuary asset which has been liquidated is possible in property law terms; the proceeds of the liquidation simply become due to the son as his father's assignee (and see also paragraph CG31610 of the Revenue's Capital Gains Tax Manual).

For capital gains tax purposes, such a form of variation will, on election, have the effect suggested and will result in the son being treated as having made the disposal of the shares sold by his father after completion of the administration of the estate.

A deed of variation under section 62(6), Taxation of Chargeable Gains Act 1992 has two consequences.

• The father's gift to the son is not treated as the capital gains tax disposal that it would otherwise be (section 62(6)(a)).
• The son takes the varied property as legatee directly from the personal representatives at market value at the date of the testator's death for the purposes of section 62(4) (section 62(6)(b)) and, in consequence, the father is no longer treated as having disposed of the shares on their sale, but rather that disposal is now treated as an occasion of charge for the son.

However, an election under section 62(7) is currently required so as to be able to 'read back' the terms of the variation into the original will and so give the variation the required retrospective effect under section 62(6); such an election would need to be made within six months of the date of the variation.

Generally an election under section 62(7) - or the successor procedure announced in this year's Budget - should be made for capital gains tax purposes if the variation is undertaken before completion of the administration of the estate. The beneficiary under an unadministered estate merely has a chose in action in terms of a right to compel proper administration of the estate, ownership of the property in the estate lying with the deceased's personal representatives; this right is treated as a separate asset for capital gains tax purposes.

When a variation is made without a section 62(7) election, the variation will be a disposal by the original beneficiary of his chose in action and it seems likely that, applying section 17, Taxation of Chargeable Gains Act 1992, the original beneficiary's base cost of the chose, as opposed to the underlying assets, is nil. Therefore, there is a disposal by the original beneficiary of an amount broadly equating to the value of the underlying estate assets.

Furthermore, there is a potential difficulty on distribution to the new beneficiary. The new beneficiary is not a 'legatee' within the definition at section 64, Taxation of Chargeable Gains Act 1992, since he does not take under a testamentary disposition or under an intestacy; therefore on distribution to the new beneficiary the personal representatives do not have the protection of section 62(4)(b) resulting in an actual personal representatives' disposal.

So, without a section 62(7) election in these circumstances, there is a potential double capital gains tax charge; one on the varying beneficiary and another on the personal representatives.- Digby Bew.

Extract from reply by 'Zibultong':

If the shares in question were the only ones of those types either father or son had ever had, no doubt recourse would be had to a 'commercial' interpretation of section 62, Taxation of Chargeable Gains Act 1992, in order to treat the father's disposal as having been made by the son. But if the father had other shares in the same companies, there seems to be no reason why this should be the case, unless perhaps the election had been made or, in its absence, section 106A, Taxation of Chargeable Gains Act 1992 would have identified the shares inherited as the shares sold.

That said, the computations in the hands of father and son may well be different, for instance by reason of the availability of losses or the annual exemption. This might make the tax at stake material and militate in favour of electing (or otherwise). But if the election had not been made, the deed of variation must be ignored for the purposes of calculating gains and losses on the disposals on the underlying assets.

This leaves the question of whether it is necessary (rather than, as most solicitors - including me - have decided to be since the controversy first saw the light of day, just prudent) to make the election to avoid the possibility of the chose in action argument being adopted. That said, in view of the length of time since this issue was first raised, without the point being taken, one tends to come to the conclusion that the Revenue feels that the point has little merit.

Extract from reply by 'Robin Hood':

Section 62, Taxation of Chargeable Gains Act 1992 would deem the variation to have been effected by the deceased, but that does not mean that the beneficiary's son would be deemed to have disposed of the investment.

Section 62 deems two things:

• first, the variation is not a disposal; and
• secondly, the variation is treated as effected by the deceased for the purposes of section 62.

The deeming of section 62 is therefore limited to the purposes of section 62. The deed of variation being before the sale of the shares, whether pre or post-completion of the administration, section 62, if elected for, would have attributed a probate value base cost to the beneficiary's son. However, as the shares have already been sold that

is irrelevant. I would always include a section 62 election where a deed of variation takes place before the completion of the administration. I have heard it said that the Inland Revenue no longer takes the chose in action argument. However, I have not seen anything conclusive or reliable to back this up.

Editorial note. Apart from the reply from 'Robin Hood', one other respondent suggested that the provisions of section 62, Taxation of Chargeable Gains Act 1992 are of limited effect and in this case would operate in respect of the cash alone and not in respect of the investments previously disposed of.

According to the Capital Gains Tax Manual, this does not appear to be the Revenue's view. In addition, the Court of Appeal in Marshall v Kerr [1994] STC 638 rejected the argument that section 62 has limited application and the House of Lords did not appear to disagree with that aspect of the decision.

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