During this challenging time, many clients are taking the opportunity of spending large periods of time at home to have important discussions with their family and friends about their wealth structure and how they would like to pass on their wealth in the future. This process might involve conversations around ownership structures, tax efficiency and reviewing individual’s wills.
In this update we highlight some of the Inheritance Tax issues that should be taken into account during these conversations.
One of the key starting points for conversations about Inheritance Tax is to consider how assets are held. At a basic level, assets can be held personally or via an entity such as a company, partnership, Foundation or Trust. It is a good time to be reviewing whether a client’s existing structure still achieves its objectives and whether it has been affected by any of the recent changes to Inheritance Tax, particularly in relation to UK land/property interests.
Passing on wealth
With the fall in value of many asset classes around the world, it may be that this is a good time to consider gifting those assets – either to another individual (such as to a child or grandchild), or into a trust. Gifts to other individuals are generally exempt from Inheritance Tax if the donor survives 7 years. Gifts into Trust may result in an Inheritance Tax charge (depending on the type of asset and its value, and the domicile status of the donor) but can provide other benefits to the beneficiaries. Other taxes such as Capital Gains Tax would need to be considered too, although it may be possible to hold-over a capital gain in certain situations.
IHT on UK residential property
We have been helping a number of Trustees, Foundation Board Members and Non-resident or non-domiciled individuals who are seeking advice about the changes to the Inheritance Tax (IHT) treatment of UK residential properties (or loans made in respect of them) from 6 April 2017.
Previously, Trustees of an excluded property Trust (i.e. one where the settlor was non-UK domiciled at the time of settlement) could hold UK residential property via a non-UK corporate without incurring any IHT charges. However, the changes from 6 April 2017 mean that structures of this kind are brought within the scope of IHT. These rules can apply equally to Foundations.
A number of assets may fall foul of these changes, such as:
- Interests (e.g. shares or loans) in companies that derive their value directly or indirectly from UK residential property
- Loans made to acquire, maintain or improve a UK residential property (e.g. a loan to a beneficiary)
- Assets used as collateral for such loans
In addition, where an individual lends money to another individual to acquire, maintain or improve a UK residential property, that loan is subject to the rules and IHT is potentially due if the lender passes away. This is the case even if the lender has no other connection to the UK and is non-resident and non-domiciled in the UK.
These rules come with a number of nuances and complications. There are also some anti-avoidance provisions, including the ‘two year tail’ which treats certain assets as being within the scope of IHT for two years after their disposal/repayment.
If you are at all concerned about how these rules may affect you please get in touch with us. We can also assist with filing returns in relation to ten year charges and exit charges.
Example: The Swiss Trustees of a Discretionary Trust decide to lend £1m to a beneficiary of the Trust. The beneficiary uses that money to build an extension to their house in Cornwall. The Trustees have made a loan which is used to improve UK residential property and it is therefore within the scope of UK IHT. This means the value of the loan is subject to charges on the Trust’s ten year anniversary and on the asset exiting the Trust. If the settlor is able to benefit from the Trust, the £1m loan will now also fall within his estate for UK IHT purposes and taxed up to 40% on his death.
Reform of Inheritance Tax
Making gifts at this time may be more attractive to some clients given the proposals made in a recent report by a cross-party group of MPs. The proposals would result in wholesale reform of Inheritance Tax in the UK, with some of the headline changes being:
- an introduction of a 10% gift tax for lifetime gifts over £30,000
- reducing the rate of tax on death to 10% (and 20% for high value estates)
- the abolition of business property relief, agricultural property relief and all other reliefs (excepting spousal and charity exemption)
- significant changes for non-domiciled individuals and excluded property trusts
- and replacing the ten year charge on trusts to an annual charge.
Example: A Swiss resident owns shares in an unquoted UK trading company. The company qualifies for 100% business property relief and therefore there should be no Inheritance Tax on a lifetime gift of the shares or on death. However, with the possibility of business property relief being withdrawn, and the introduction of a cap on Inheritance Tax free lifetime gifts, this individual should consider now whether it is worth passing on some of those shares to another person, for example the next generation in the family. This could also potentially be achieved by a gift into Trust.
Changes to Inheritance Tax have caught many people off-guard and with reform on the agenda it is important that clients review their position on a regular basis. If you have any questions about any of these matters, or you would like to discuss ideas about achieving your objectives from the perspective of wealth and succession planning, please do get in touch with us.