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NICK HUGHES of WJB Chiltern describes a successful deathbed inheritance tax planning arrangement.
MR SQUIRE OWNED all the shares in a successful trading company. His wife, Mrs Squire, was not involved with the company and had no shares in it. Sadly, Mrs Squire suddenly became seriously ill and sought medical treatment. The prognosis came as a terrible shock; she had only months to live.
NICK HUGHES of WJB Chiltern describes a successful deathbed inheritance tax planning arrangement.
MR SQUIRE OWNED all the shares in a successful trading company. His wife, Mrs Squire, was not involved with the company and had no shares in it. Sadly, Mrs Squire suddenly became seriously ill and sought medical treatment. The prognosis came as a terrible shock; she had only months to live.
Mrs Squire had a portfolio of quoted investments and apart from some legacies, her estate was left under her will to her husband. Prospectively, there would be no inheritance tax liability on the death of Mrs Squire, but could anything better be arranged? In particular, the bunching of their estates on the death of the survivor needed to be addressed and any further planning which might be possible.
One's first thought in this scenario is to ensure that sufficient assets from the estate of Mrs Squire go into a nil-rate band discretionary trust of which Mr Squire might be one of the beneficiaries. This achieves a modest saving in inheritance tax and is normally worthwhile but, in this case, there was a much better possibility.
The private company shares
The shares in Mr Squire's trading company qualified for 100 per cent inheritance business property relief, but they were entirely in the estate of Mr Squire. Would there be any advantage if some of these were transferred by way of gift to Mrs Squire?
In such circumstances, one would normally examine section 108, Inheritance Tax Act 1984, which governs business property relief in succession situations where there is a gift from one spouse to the other. Clearly, Mrs Squire would not satisfy the basic rule which is that, in order to be eligible for business property relief, the relevant assets must have been owned for two years prior to the transfer. Section 108 actually offers no help here because all it does is to allow a spouse who becomes entitled to the relevant property on the death of the first to die to add on the other spouse's period of ownership in calculating his or her own two-year ownership period. This provision is of no assistance with lifetime gifts.
Section 109, Inheritance Tax Act 1984 sets out a different rule which applies where there are successive transfers of value, and one of them is a transfer on death. It does not matter whether this is the first transfer or the second transfer, so long as they are not both lifetime transfers.
Section 109 provides that, if the earlier transfer was eligible for business property relief, then as regards the second transfer, being the one made by the transferee (in this case on death), he or she is likewise to be eligible for business property relief, notwithstanding the fact that the two year test in section 106 is not on that occasion satisfied.
Thus, we came to the view that if shares in the company were transferred from Mr Squire to Mrs Squire, they would be eligible for business property relief under section 109 on the death of Mrs Squire, even though she would not have owned them for two years. In short, section 109 can, provided its detailed conditions are satisfied, enable the business property relief, which a transferor is eligible to claim, to be similarly claimed by the transferee at any time. The crucial condition is of course that one of the transfers is on death.
Of course, the transfer of the shares from Mr Squire to Mrs Squire was an exempt transfer but section 109(1)(a) simply requires that there is a transfer of value which is eligible for relief under the chapter (or would have been so eligible if such reliefs had been capable of being given in respect of transfers of value made at that time). An exempt transfer is nevertheless a transfer of value (section 2(1), Inheritance Tax Act 1984).
Upon the death of Mrs Squire, the shares, and certain other assets, were left by her will to a discretionary trust of which Mr Squire was one of the beneficiaries. The other assets were within the nil-rate band and 100 per cent business property relief was claimed in relation to the private company shares. After some hesitation, the Capital Taxes Office accepted that the relief was due.
This arrangement restarted the taper relief clock for capital gains tax purposes in relation to the shares in the trading company and that could be a serious drawback if a sale of the shares was in prospect. However, on the death of Mrs Squire, the shares received a tax free uplift in base cost to market value and this, depending on the facts of the particular case, might produce even better results after tax than full business asset taper relief.
More ideas
The discretionary trust set up by Mrs Squire's will offers more planning possibilities in the future. Mr Squire can benefit from either income or capital in the trust during his lifetime and the gift with reservation of benefit rules do not apply in this circumstance.
If it suits him, Mr Squire may wish to buy the trading company shares back from the trust in the future, permitting a second bite of the business property relief cherry if he plans to hold the shares on an indefinite basis and eventually leave them to his children.
Incidentally, the inheritance tax effectiveness of this arrangement did not depend on the application of the spouse exemption for the transfer of shares from Mr Squire to Mrs Squire, and it would have worked equally well between unmarried persons or even different generations. In these situations, a gift into an inter-vivos interest in possession trust with subsequent discretionary trusts might be viewed by the original shareholder as the safest way forward.
