The Chartered Tax Adviser Examination

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1 The Chartered Tax Adviser Examination May 2016 Inheritance Tax, Trusts & Estates Advisory Paper Suggested Solutions

2 QUESTION 1 1) Delgano Grandchildren s Settlement Calculation of Income Tax liability Year ended 5 April 2016 Non-savings Savings Divs Property income 7,460 Bank interest (15,200 x 100/80) 19,000 Dividends (18,900 x 100/90) 21,000 7,460 19,000 21,000 Discretionary income 3,730 9,500 10,500 Interest In Possession (IIP) income 3,730 9,500 10,500 Discretionary income 3,730 9,500 10,500 Less expenses (700 x 100/90) (778) 9,722 Non-savings income 1,000 x 20% 200 2,730 x 45% 1,229 Savings income 9,500 x 45% 4,275 Dividend income 9,722 x 37.5% 3,646 Expenses 778 x 10% 78 Total discretionary income tax 9,428 Less deducted at source: Savings income (1,900) Dividend income (1,050) 6,478 IIP income 3,730 9,500 10,500 Non-savings income 3,730 x 20% 746 Savings income 9,500 x 20% 1,900 Dividend income 10,500 x 10% 1,050 Total IIP Income Tax 3,696 Less deducted at source: Savings income (1,900) Dividend income (1,050) 746 Total liability for the trust 7,224 Less paid on account (4,500) Total Income Tax due 31 July ,724 Tax pool B/f 900 Additions Non-savings (above) 1,429 Savings (above) 4,275 Dividends ( 3,274 1,050) 2,674 Available to frank distributions 9,278 Tax on distributions ( 6,000 x 45/55) (4,909) C/f 4,369 1

3 Victoria IIP beneficiary R185 (Trust income) Year to 5 April 2016 Net Tax Non-savings income 1, Savings income 3, Dividend income 4, Benjamin Discretionary beneficiary R185 (Trust income) Year to 5 April 2016 Net income distribution 3,000 Tax credit 2,455 Capital Gains Tax liability Year ended 5 April 2016 London flat (workings) 553,756 Newcastle House (workings) 0 Total 553,756 Less trustees annual exemption (5,550) Chargeable gain 548,206 Capital Gains Tax x 28% due 31 January ,498 Workings The Newcastle house The Newcastle house is entitled to 100% private residence relief under s.222 TCGA 1992 by virtue of the extension provided by s.225 TCGA 1992 as it has been occupied by a beneficiary/beneficiaries entitled to do so throughout the period of its ownership by the trustees. The trustees must claim the relief. The London flat Net proceeds 2,432,000 Less Cost (1,000,000) 1,432,000 Private residence relief 1,432,000 x 144/246 (838,244) Letting relief (restricted) (40,000) Gain before trustees annual exemption 553,756 The property was owned for 246 months of which it was let for 118 months, occupied for 126 months and vacant for the last two months. Proportionate Private residence relief is due on the London flat as it has been occupied by a beneficiary/beneficiaries entitled to do so for part of its period of ownership by the trustees (as above). The final period exemption afforded by s.223 (2) TCGA 1992 provides for the 18 months up to the date of sale to be given relief where the property has been occupied as the principal private residence of a beneficiary/beneficiaries entitled to do so at some time in the trustees period of ownership. 2

4 Letting relief under s.223 (4) TCGA 1992 is also due as an extension of s.222 TCGA This is restricted to the lower of the private residence relief given, 40,000 and the gain arising by reason of letting. For disposals after 10 December 2003 trustees must claim the relief. 2) Inheritance Tax There is a 10 year anniversary on 1 September The trustees are obligated to return, on form IHT100, the principal charge arising on that occasion within six months of the end of the month (31 March 2016). They must also make payment of any Inheritance Tax due by the same date. The principal charge is calculated by multiplying the effective rate % x 30% (the actual rate %) by the relevant property value of the trust at the 10 year anniversary date. The actual rate % will never exceed 6% as the effective rate % will never exceed 20%. The effective rate % is calculated by taking the relevant property value of the trust at the 10 year anniversary date, adding to this the value of non-relevant property (valued at the date of initial settlement) and deducting the nil rate band in force at the 10 year anniversary date (less any capital distributions made since the property became relevant property on 6 April 2008)) and multiplying the resultant figure by 20% to arrive at the notional tax amount. The notional tax amount is then divided by the sum of the relevant property and non-relevant property values above and multiplied by 100 to arrive at the effective rate %. This rate will then be scaled back as the trust did not enter the relevant property regime until 6 April Discretionary income interests are relevant property and both Benjamin and Anthony s shares are therefore valued at the date of the 10 year anniversary. For non-cash assets valuations will be required. Qualifying IIPs (those established before 22 March 2006) are non-relevant property and therefore Victoria and Anita s shares are valued at the date of initial settlement thus 625,000 each. 3

5 MARKING GUIDE FOR Q1 TOPIC MARKS Income Tax: Discretionary income with expenses deducted from dividends in priority 1 Basic rate band applied to non-savings income 0.5 Balance non-savings income/savings 45% % % 0.5 Tax deducted at source 0.5 Interest In Possession income (no deduction for expenses) 1 Non-savings income/savings 20% 0.5 Dividend 10% 0.5 Tax deducted at source 0.5 Deduction of first payment on account 0.5 Tax due and due date of payment 0.5 Tax pool Additions 1.5 Distributions 0.5 R185 (Trust) Benjamin (Discretionary income payment) 0.5 R185 (Trust) Victoria (IIP income) Non-savings income 0.5 Savings income 0.5 Dividend income (deducting expenses) 0.5 Capital Gains Tax Newcastle House (full PPR relief available) 0.5 London flat: Proportionate PPR available including final period exemption 1 Letting relief available (restricted to statutory maximum) 0.5 Trustees annual exemption % and due date 1 Entitlement of beneficiary to occupy under terms of settlement 0.5 Sub-Total 15 Inheritance Tax IHT100 Form requirement for Principal Charge 0.5 Due date submission and payment 0.5 Principal charge formula (relevant property x actual rate (effective rate x 30%) maximum 6% 0.5 Effective rate: Relevant property, who, when 0.5 Non-relevant property, who, when 0.5 Nil rate band (less distributions since became related property) 1 Notional 20% 0.5 Notional tax/(sum relevant and non-relevant property) x 100 = effective rate 0.5 Scaling back for period pre 6 April Sub-Total 5 TOTAL 20 4

6 QUESTION 2 Matters for the Attention of Partner Notes for meeting with client and family (31 May 2016) The current potential Inheritance Tax (IHT) liability, assuming that Nicholas as the elder dies first, based on the respective wills of Nicholas and Sharon currently in force, their current ownership of property and Nicholas interest in the G N Noden Will Trust is 1,040,800 (Appendices 1 & 2). The main issue is the G N Noden Will Trust. This has five acres of development land which accounts for 842,000 of the above sum (see Appendix 1). Termination in favour of Nicholas would have no immediate IHT effect. He would merely own the asset personally instead of via the settlement, there would be no transfer of value by virtue of s.53 IHTA Conversely termination in favour of Gerald would be a Potentially Exempt Transfer (PET) by Nicholas under s.52 IHTA 1984 and whilst this would not trigger an immediate charge to IHT, this may become due on Nicholas subsequent death within seven years (payable by the trustees). To minimise their exposure the trustees could retain funds (or place a charge over the land), such action would not affect the value of the PET or the disposal value for Capital Gains Tax (CGT) purposes (see below). In either event, this would be a disposal for CGT purposes with such tax assessable on the trustees. However, as the trust s sole asset is qualifying agricultural property, holdover relief under s.165 TCGA 1992 can be jointly claimed by the trustees and Nicholas/Gerald within four years of the end of the year of assessment in which the trust termination occurs. This applies to the full market value of the property. I would recommend the trust be terminated in favour of Gerald, but subject to the gain being held over under s.165 TCGA 1992 and for the trustees to take a charge over the land in the event of Nicholas s death within seven years. Taking the residual assets the main assets are the house ( 720,000) and contents ( 30,000). Consideration could be given to Nicholas and Sharon selling the farmhouse and downsizing to a smaller property. PETs of capital in excess of the 3,000 annual exemption could be made to Gerald. Any IHT becoming chargeable on PETs in the event of the donor s death within seven years are payable by the donee. PETs could also be made by Sharon of the inherited Land Rover, guns and stamp collection to Gerald, alternatively these could be sold and a cash PET made to Gerald. Either way there is likely to be no CGT liability if the gifts are made fairly promptly as market value uplift is given on death however if there is a long delay in obtaining probate CGT may become payable on the increase in value of the stamp collection (the Land Rover and guns are wasting chattels and therefore exempt from CGT). If their income exceeds their requirements they could make regular exempt cash gifts of income to Gerald under the normal expenditure out of income provisions (s.21 IHTA 1984). On the event of Gerald s marriage Sharon could make the gift of Jewellery to his bride in consideration of the same under s.22 IHTA 1984 i.e. 5,000 (The excess 3,000 would be covered by the annual exemption under s.2 (2) IHTA 1984). Nicholas could also make a cash gift utilising the same exemptions. Nicholas does not have any requirement as trustee to complete form IHT100 on the upcoming 10 year anniversary of the Noden Discretionary Trust as the trust is an excepted settlement meeting the general conditions under SI 2008/606 Inheritance Tax (Delivery of Accounts) (Excepted Settlements) 5

7 Regulations 2008 being UK domiciled settlor, UK resident trustees, no related settlements and the specific condition that the value of the assets at the ten year anniversary date (plus the cumulative value of any chargeable lifetime transfers made within seven years of the initial settlement) does not exceed 80% of the current nil rate band in force which has not been otherwise reduced by capital distributions. Appendix 1 Potential liability to Inheritance on first death of Nicholas: Farmhouse including contents (related property s.161 IHTA 1984). 375,000 Bank accounts 23,500 Total Joint Property 398,500 Spousal exemption (398,500) Chargeable Joint Property 0 Farmland 180 x 12,000 2,160,000 Agricultural Property Relief (APR) (2,160,000) Cottage 100,000 APR (100,000) 0 0 Personal chattels 17,000 Total free estate devolving under will 17,000 Spousal exemption (17,000) Chargeable Free estate 0 Interest in Possession (45 x 14,000) + (5 x 500,000) 3,130,000 APR (700,000) Total settled estate 2,430,000 Nil rate band (325,000) Chargeable settled estate 2,105,000 40% payable by trustees 842,000 Notes APR and Business Property Relief (BPR) The farmhouse is no longer occupied for the purposes of agriculture and so does not qualify for APR. The cottage is deemed to be occupied for the purposes of Agriculture by virtue of Extra Statutory Concession F16 and therefore qualifies for APR at 100%. 6

8 The land within the Interest in Possession Trust is subject to APR at 100% on its agricultural value only. No BPR is due as the land is not used by the life tenant in a business carried on by him in any capacity. Partly Exempt Transfer Rules When considering assets passing under more than one title s.40 IHTA 1984 governs the rules under s.36 39A IHTA These apply separately to the gifts taking effect out of each fund and there is therefore no partial exemption to be taken into account. Appendix 2 Potential Inheritance Tax liability on the subsequent death of Sharon Farmhouse including contents 750,000 Farmland (as above) 2,160,000 (2,160,000) Cottage (as above) 100,000 (100,000) 0 0 Bank accounts 47,000 Personal chattels 25,000 Total free estate devolving under will 822,000 Nil rate band (325,000) Chargeable free estate 497,000 40% payable by the personal representatives 198,800 Notes APR Sharon is deemed to inherit the ownership period of her late husband Nicholas under s.120 IHTA 1984; APR is therefore due irrespective of her actual period of ownership. Occupation is not in point. 7

9 MARKING GUIDE FOR Q2 TOPIC MARKS Inheritance Tax Calculations: Nicholas: Farmhouse (no APR), valued according to related property rules s.161 IHTA Farmland (100% APR) 0.5 Cottage (100% APR ESC F16) 1 Spousal Exemption 0.5 Interest in Possession (APR agricultural value only), no BPR 1 NRB % 0.5 Sharon: Farmland and cottage succession entitlement to APR 1 NRB % 0.5 Total potential IHT liability 0.5 Attributable to Interest in Possession 0.5 Inefficient utilisation of Nicholas nil rate band 0.5 IHT termination IIP in favour Nicholas (no chargeable transfer of value) 1 IHT termination in favour of Gerald PET 1 IHT trustees liability failed PET, retention/charge over assets, no effect on value PET/Capital disposal for CGT purposes 1 CGT S.165 TCGA 1992 holdover agricultural property, full value 1 Claim s.165 TCGA 1992 joint and time limit 1 Claim s.165 TCGA 1992 before release asset trustees liable to CGT 0.5 PET s of capital (cash) 0.5 PET s by Sharon post death of Nicholas of personal chattels/sale and cash to 1 Gerald NEOI spare income if applicable 0.5 Gift in consideration of marriage jewellery 0.5 Noden Discretionary Trust upcoming TYA 1 Excepted settlement general requirements 1.5 Excepted settlement specific requirements 0.5 TOTAL 20 8

10 QUESTION 3 Presentation on Deeds of Variation - 31 May 2016 The reasons for a deed of variation A deed of variation is a post-death instrument whose wording is treated as written back into the terms of the deceased s will or intestacy or used to sever a joint tenancy and redirect the property as a tenancy in common. Its main purpose is to rearrange the distribution of property, mainly for the purposes of asset protection or mitigation of either or both Inheritance Tax (IHT) and Capital Gains Tax (CGT). The mechanism of execution of a valid deed of variation The deed is made in writing by the person giving up their interest in property left by will or intestacy. The Court has to agree to the deed on behalf of a minor (unmarried under 18) or someone with mental incapacity. It must be completed within two years of the date of death to be effective for tax purposes and contain wording directing it to be effective for either or both IHT and CGT. Each person s entitlement to an asset can only be the subject of a single variation. No consideration must pass between beneficiaries. Consideration is widely defined and includes noncash consideration. The IHT, CGT and Income Tax implications of a deed of variation For IHT the deed treats any variation as though it was a disposition of the deceased and at the original probate value. For CGT the deed treats any variation as though it was a disposition which took place at the date of death, at the original probate value. The beneficiary who varies their entitlement under the deed of variation is the settlor of any new settlement created by that deed. There is no equivalent provision for income tax purposes. There is no reading back to the date of death and the disposition is treated as made by the person who has varied their entitlement. The definition and creation of a settlor-interested trust or parental settlement via a deed of variation, and the ongoing Capital Gains Tax and Income Tax implications thereof. Where either the settlor (or their spouse) can benefit from the trust the income is assessed on the settlor personally irrespective of whether they receive the income. Under a parental settlement (in favour of a minor child or stepchild of the settlor) whether it be discretionary, an IIP or bare trust, the settlor is subject to income tax on the income arising (IIP and bare) or distributed (discretionary). Gains are assessable on the trust (discretionary or IIP) or on the beneficiary (bare). The use of a disclaimer as an alternative to a deed of variation Where a disclaimer is made the property passes back to devolve under the terms of the will as residue or under the rules of intestacy A disclaimer is all or nothing in respect of a particular legacy and cannot be used to redirect property. The person disclaiming the property cannot therefore be a settlor of it. 9

11 The disclaimer has to be in writing and made within two years of death to have effect for Inheritance Tax and it must be made before the beneficiary receives any benefit. It may be retracted unless the asset has already passed to alternate beneficiaries. MARKING GUIDE FOR Q3 TOPIC MARKS Deed of variation Post death variation of distribution of estate 0.5 Reasons: tax planning, asset security, dispute resolution, to include an excluded beneficiary etc. 0.5 each, max Mechanism: In writing by person giving up their entitlement 0.5 Minor/mental incapacity via court 0.5 Two year time limit 0.5 Statement for IHT and/or CGT 0.5 No consideration 0.5 Once 0.5 Settlor-interest / Parental settlement Settlor interest self and/or spouse 0.5 Income tax on settlor 0.5 Parental settlement minor child 0.5 Income tax on settlor as arising (IIP/Bare trust) or distributed (discretionary) 0.5 CGT on trustees (Discretionary or IIP) or child (bare trust) 0.5 Disclaimer Passes back to devolve under will/intestacy, no redirection therefore not settlor 1 In writing within two years for IHT providing no benefit already taken 1 Retraction providing not passed to alternate beneficiaries 0.5 TOTAL 10 10

12 QUESTION 4 An address Anytown Somewhere Client address Somewhere else Another Town May 2016 Dear Rachel BUSINESS PROPERTY RELIEF I am writing to you regarding our recent meeting to discuss Bread Holdings Ltd and the potential for Business Property Relief to apply to your shareholding. In order for Business Property Relief (BPR) to be available, the following conditions must be met: 1) Shares must usually be unquoted. 2) Shares must have been owned for a minimum of two years immediately preceding the transfer. 3) The business must not consist wholly or mainly of making or holding investments, or dealing in stocks, shares, land or buildings. Having determined that BPR is available, the value of any excepted assets must be excluded. In relation to condition 3, within a single company trading activities must exceed non-trading activities. Whether or not trading activities dominate is determined by reviewing the position in the round by reference to turnover, profit, time spent, capital and the business context itself. If as a consequence of that review, overall the trading activities fall below the 50% threshold the company as a whole will be denied relief. In contrast, where the company holds excepted assets, which are assets that are not used in the business (for example, cash surplus to the business requirements) that element is simply excluded from the share value with relief applied to the balance. In relation to excepted assets, it is important to note that the test is whether it is used for the purposes of the business of the company and not whether or not it is used in the trade. The definition of Business is far wider and does therefore encompass activities which are not trading. There is no requirement that business assets be located in the UK in order to receive BPR. Application to Bread Holdings Ltd Points 1 and 2 above are clearly met in relation to Bread Holdings Ltd. In relation to point 3, although Bread Holdings Ltd is a holding company and therefore only holds investments, BPR can still apply to holding companies if the company is wholly or mainly the holding company of a trading group. The first question is therefore whether, viewed as a whole, the activities of the Bread Holdings Ltd group are wholly or mainly trading activities. If Bread Holdings Ltd does qualify, BPR would be due on it and any subsidiary companies that are trading companies. For any trading company that includes excepted assets, the BPR is reduced by the value of those assets. 11

13 Roll Ltd Unfortunately this company is at present solely an investment company. Should Bread Holdings Ltd still qualify for BPR on the basis that the other companies are trading and therefore Bread Holdings Ltd is mainly the holding company of a trading group, the value of Roll Ltd would still be excluded from BPR. Dough Ltd This company is a trading company, but also holds an excepted asset, the holiday home which you use personally. On the assumption that the value of the house is not so disproportionate as to prevent Dough Ltd being mainly trading, the value of the company would qualify for BPR within Bread Holdings Ltd. However the value that does qualify will be reduced by the value of the holiday home held by the company but available solely for your personal use. Crumpet Ltd Again, this company should qualify, though the value of the short term cash deposits may need to be excluded, as it would not appear that the cash is required for the business if it is continually reinvested. The cash may therefore be regarded as an excepted asset. Pain SA As a trading company, this would also appear to satisfy the requirements for BPR. Further Information Before I can give you a definite answer as to whether Bread Holdings Ltd will qualify for BPR, I will need to know the values of the subsidiary companies in the group. If the value of Roll Ltd is so significant as to prevent the group being wholly or mainly trading then BPR will not apply. Assuming this is not the case, I will then need to know the value of the holiday home held by Dough Ltd, and the cash deposits held by Crumpet Ltd, in order to calculate firstly whether the assets are so significant as to prevent either company being a trading company, and if not, the value of those companies that qualifies as a trading company (by excluding the excepted assets). Improving the Situation This is likely to become clearer after the values requested above are assessed. However, obviously Roll Ltd, the investment property in Dough Ltd and the cash deposits in Crumpet Ltd are unlikely to qualify for BPR and if their values are significant they may prevent all or some of the group doing so as well. In the case of Roll, if it prevents the rest of the group from qualifying then it may be better to hold it outside the group, or to return it to a trading company by taking up property development again. In the case of Crumpet and Dough s investment assets it may be useful to consider either selling the assets and re-investing in trading assets or removing the assets from the group. I hope this is helpful. Yours sincerely A Adviser. 12

14 MARKING GUIDE FOR Q4 TOPIC MARKS Presentation 1 BPR requirements (unquoted and time requirement, business, excepted assets) 3 Application to situation holding company 2 Roll Ltd 1 Crumpet Ltd 1 Dough Ltd 1 Pain SA 1 Further information 2 Advice (Dependent on further information, consider removing Roll from Group, consider 3 what to do with excepted assets) TOTAL 15 13

15 QUESTION 5 The Executors Somewhere An Address Anytown May 2016 Dear [ ], THE ESTATE OF MR PETER JOHNSON DECEASED This letter sets out the circumstances where a fall in the value of individual investments post death can affect the value of assets for Inheritance Tax (IHT). You are aware that for IHT purposes the value of the deceased s total assets and liabilities is measured immediately before death and these values form the basis on which IHT is paid. For particular assets special valuation rules may apply, for example where spouses own assets jointly. These are called related property rules, and generally such assets are valued as a fraction of 100% of the value of the whole asset in joint ownership. The IHT regime has a number of reliefs that apply where certain assets are sold within a specified time after death and have fallen in value from their value at probate. I will outline the reliefs that may apply to this estate, and then consider in more detail whether they will be beneficial. Related Property relief When filing the IHT return, the assets owned jointly by Mr Johnson and his wife (the house and the investment company) would have been valued without reflecting the fact that shared ownership would usually result in a discount to the valuation. Accordingly, the value in Mr Johnson s estate would have been 50% of the value of 100% of the house, and 40% of the value of 100% of the shares. Where related property in a deceased s estate is sold within three years (and subject to certain conditions) it is possible for the executors to make a claim to value the property including a discount for fractional ownership. This claim is made on an asset by asset basis. Sale of Land relief Where the executors sell land within three years of death a claim can be made to substitute the sale value for the death value (but not if such sales are made to certain related persons which is not the case here). The claim when made automatically applies to all land sold in the three years and this therefore needs to be considered carefully if more than one sale of land has occurred. If the executors purchase any land in the period beginning on death and ending four months after the last sale, the loss claim is reduced. Executors should therefore carefully consider any purchases of land and its effect on the relief. I have considered below whether or not this claim should be made. Sale of Quoted Investments Relief This relief applies to shares or securities which are quoted (listed on a recognised stock exchange) at the date of death. If there are sales of such investments within 12 months of death then the overall loss (ignoring cost of sale) on sale of such investments reduces the value of the estate at death. As with sales of land, it should be noted that the claim is not made on a per investment basis but by reference to all such investments sold in the time period. Accordingly there could be a mixture of gains and losses in the overall figure and if there was an overall gain then the claim would not be beneficial. In addition, relief is restricted if purchases of quoted shares are made in the period starting on death and ending two months after the last sale, however a rights issue is not treated as a purchase that restricts relief. 14

16 Should any claims be made? Related property relief House This meets the criteria outlined above. The further conditions (which are also met) are that the vendors are the persons in whom the property vested after death, it is an arm s length price to a person unconnected to the vendor (defined in legislation but which includes for example spouse and child of the vendor) and is not in conjunction with a sale of the related property. A claim can therefore be made to reduce the value of the house in the estate by 10% ( 40,000). Investment Company This meets the criteria outlined above. A claim can therefore be made to reduce the value of the shares in the estate by 10% ( 7,200). Land relief The house was sold at a loss of 10,000 to the standalone value at death but the villa was sold at a gain of 16,800. Therefore it would not be advantageous to make such a claim unless further sales of land are made from the estate at a loss before 8 March Shares relief The investment company shares are not quoted and therefore would not qualify for this relief. Loss on Bright plc 27,000 Loss on Fizz plc (death value plus price paid for rights less sale value) 55,000. It would therefore be advantageous to make this claim. It is now too late to sell further quoted investments and receive more relief. The total IHT saved by making the claims would be 51,680. I hope you found this letter of assistance and we would be happy to meet and discuss any of the issues raised. Yours sincerely Tax Adviser 15

17 MARKING GUIDE FOR Q5 TOPIC MARKS Presentation 1 Related property relief (time, per asset basis) 1 Sale of land relief (time, effect of purchase, all land) 1.5 Sale of shares relief (time, effect of purchase, all shares) 1.5 Related property relief (calculations) 2 Land relief (calculation) 2 No shares relief available on investment company 0.5 Shares relief (comment on rights issue) 0.5 Shares relief (calculations) 2 Advice (Make claim for related property and shares, not for land) 2 Advice re review for further land sales 1 TOTAL 15 16

18 QUESTION 6 Inheritance Tax Calculation on Mr Smith s death Calculation of Mr Smith s nil rate band. Mr Smith had two wives that both predeceased him, each with an unused portion of a nil rate band. It is possible for him to receive portions of transferable nil rate band from each wife, but the total amount of the combined nil rate bands transferred (TNRB) cannot exceed one full nil rate band. Transferable nil rate band available from Mr Smith s first wife: Transfer to discretionary trust ,000 Less annual exemption 1996/97 (3,000) Less annual exemption 1995/96 (3,000) Chargeable lifetime transfer 150,000 Nil rate band at the time of death was 234,000 less 150,000 thus 35.89% (84/234) of the nil rate band was unused. Transferable nil rate band available from Mr Smith s second wife was 325,000 less 40,000 thus 87.69% (285/325) was unused. The total transferable nil rate band from both wives exceeds the maximum of 100% nil rate band, therefore the TNRB is restricted to 325,000 and Mr Smith s combined nil rate band is capped at 650,000. Lifetime transfers December 2005 establishment of interest in possession trusts Pre 2006 Interest in Possession Trusts are Potentially Exempt Transfers (PETs). Their establishment was over seven years prior to death. Therefore no tax was due during lifetime and no tax is due on death. Gift of the home in October 2009 The gift of the holiday home was both a PET and a gift with reservation at the time when made (October 2009) but as the reservation ceased in May 2012 that cessation was also treated as a PET (May 2012). As both PETs take place within seven years of death there is the potential for a double charge on the same asset. In such a situation a calculation is performed comparing the IHT charged if only the PET made at the earlier date is taken into account with that if only the PET made at the later date is similarly taken into account the option which gives the highest IHT liability is adopted. Here that is the PET at the later date (May 2012) which is subsequent to the gift of 300,000 in January 2011 and the establishment of the post 2006 IIP trust in January Gift in January PET no lifetime tax due. Death is within seven years so PET becomes chargeable. Value of gift 300,000 Less annual exemption 2010/11 (3,000) Less annual exemption 2009/10 (3,000) Chargeable transfer 294,000 17

19 Fully covered by the nil rate band. Nil rate band remaining (on death) is 650, ,000 = 356,000 Establishment of trust in January 2012 This is a chargeable lifetime transfer as the rules on Interest in Possession trusts changed in Value of gift 150,000 Less annual exemption 2011/12 (3,000) Chargeable transfer 147,000 During life this was fully covered by the nil rate band therefore no lifetime tax due. On death this is still fully covered by the nil rate band therefore no further tax due Remaining nil rate band 650, , ,000 = 209,000 May 2012 PET Value of the gift is 240,000 and, as a deemed PET, no annual exemptions can be allocated against it. No lifetime tax is due. Tax on death Value of transfer 240,000 Less nil rate band (209,000) Chargeable transfer 31,000 Tax at 40% 12,400 Death within 3-4 years of the gift so 20% taper relief Tax due 9,920 Other lifetime gifts The gifts to his nephews of 100 each at Christmas and birthday fall under the small gifts exemption of 250 per recipient. They therefore do not use up any annual exemptions and no tax is due on death as they are fully exempt, and not PETs. The gifts to each child of 3,000 every year falls under the normal expenditure out of income exemption as the gifts were made as part of the normal expenditure of the transferor, it was made out of his income, and he was left with sufficient income to maintain his normal standard of living. These gifts therefore do not use up any annual exemptions and no tax is due on death as they are fully exempt, not PETs. Death estate Shares 110,000 x (156 + ¼ ( )) 173,800 House Cash 220,000 Woodland 50,000 Woodland relief (30,000) Total 913,800 Shares valued using quarter up rule 18

20 Woodland relief applies to the value of the timber only, not the entire value of the land and timber. Children to receive 400,000, nephew to receive woodland ( 20,000 after relief) Charitable legacy will be greater than 10% of the estate, therefore 36% IHT rate apples Specific legacies of 420,000 but as the estate residue is passing to an exempt body, the legacies must be grossed up. Gross taxable legacies are therefore 420,000/64 = 656,250 Tax due is 236,250 ( 36%) MARKING GUIDE FOR Q6 TOPIC MARKS 1 st TNRB 2 2 nd TNRB 1 TNRB Cap 1 GWR identification of PET at correct time and value, and comment, and calculate tax 2 Pre 2006 IIPs PETs PET 2 Post 2006 IIP CLT calc 2 Regular Gifts comment 1 Small gifts comment 1 Death estate: Woodland 2 Share valuation 1 No NRB 1 Calculation specific legacy exempt residues 2 Charitable 36% rate 1 TOTAL 20 19