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Benefit without reservation

The Inland Revenue (Capital Taxes) has recently been looking closely at many of the inheritance tax planning arrangements that IFAs are promoting, including those using the “spouse alienation trust”. Indeed, a case involving this approach to inheritance tax planning has just been heard in the High Court.

What is a “spouse alienation trust”? This arrangement involves your client declaring a trust for the immediate benefit of their spouse and giving the trustees a power to appoint to a wide class (including your client) later. If suitable later, the trustees exercise this power to appoint to the couple&#39s children or grandchildren, say, thereby “alienating” the spouse&#39s interest.

You need to address a few key issues. It is advisable for the trustees to make a payment to the spouse so she receives a commercial benefit from her interest in the trust.

It is also recommended that the client appoints independ-ent (preferably professional) trustees so no one can argue that they are acting in dual capacities. Finally, to maximise flexibility, it is vital that you structure the arrangement so, at any time, the trustees may exercise this power to appoint money to either your client or their spouse.

The transfer of value by the spouse to the children or grandchildren is a potentially exempt transfer and therefore, provided the spouse survives for seven years, no inheritance tax will become payable.

At first sight, however, the declaration of the trust by your client would appear to be a gift with reservation of benefit, as they can benefit under the trust.

It would seem that S102 Finance Act 1986 means the gift is ineffective for inheritance tax purposes. However, on closer examination of S102(5), it becomes clear that no gift with reservation arises where a disposal of property by way of gift is exempt by being made between spouses.

In the opinion of leading tax counsel, the arrangement promoted by one international life office “represents a sensible way of giving away assets while retaining the right to benefit. There are few ways in which this can safely be done and this, in my view, is one”.

In the case referred to in the introductory paragraph opposite and recently heard before the High Court, CIR •

Eversden, the settlor created a life interest trust for the benefit of her husband. The husband received benefits during his lifetime and, on his death, the benefits passed on to discretionary trusts under which the settlor was a possible beneficiary.

On the death of the settlor, the Revenue contended that the property formed part of her estate because it was property subject to a reservation. The case had already been the subject of a hearing in front of the Special Commissioners last year. The Commissioners delivered their findings in favour of the taxpayer.

The Revenue decided to appeal to the High Court against the Commissioners&#39 findings. In his judgement, the judge again found in favour of the taxpayer (represented by the counsel mentioned above).

As can be seen from the High Court case the promotion of this approach to planning is not the preserve of life offices. I have been aware of several tax advisers (including well-known solicitors) recommending these types of arrangement for specific clients since 1986. Indeed, one assumes that some of these settlors must have since died and, without evidence to the contrary, that the Capital Taxes Office has accepted the effectiveness of the arrangement.

The position seems clear – there should be no concerns unless the Revenue were to be successful in any litigation, which is generally accepted to be unlikely. The alternative approach for the Revenue is to persuade Ministers of the need for corrective legislation in a future Finance Bill. However, this should not deter those wishing to mitigate inheritance tax now.

Even where Parliament has introduced legislation in the past to counter particular types of arrangements then it has very rarely been retrospective. For example, when the Revenue lost the Ingram case in the House of Lords the inheritance tax legislation that followed in 1999 was not retrospective.

There is therefore, in my view, an opportunity to promote this type of offering now.

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