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House rules

A father seeks advice on the best way to provide a home for his errant son

Peter has asked for advice on a tricky family problem. He has been a client for only a few months but I am aware of a number of gifts that he and his wife have made to their children over the last few years and that there are three trusts involved.

Peter wants to help his eldest son buy a house. He has the funds to do this comfortably and sees it as a way of helping his son while making some further inroads into his potential inheritance tax liability.

The problem is that his son has a major problem with drugs and Peter does not want to give him the cash to buy the house. Nor does he wish simply to buy the house in his son’s name. He fears (apparently with some justification) that the house could well be sold or lost to fund his lifestyle.

We have talked with Peter about two main alternatives. The first is to use a trust that will enable him to make an gift that is effective for inheritance tax while protecting the asset. The second option is to buy the house in his son’s name but with some restrictions in the deeds that will enable Peter to veto any sale.

The latter option runs the risk that the Capital Taxes Office will argue that some benefit has been reserved by Peter but in principle this might not really be a problem. It could clearly be shown that there is no tax avoidance involved and that the action has been taken as a protective measure.

This has been discussed with the solicitor dealing with the conveyance and it has been agreed that this should be a valid approach because Peter cannot himself ever personally benefit from the house or the proceeds of any sale.

The trust route avoids the risk of the gift being vitiated but there is the question of IHT. It is also more onerous and expensive to set up and administer.

I have suggested that the gift be made equally by Peter and his wife, so that it does not immediately throw up a tax charge.

As the trust will be discretionary, the gift will be an immediately chargeable transfer for IHT purposes rather than a potentially exempt transfer. Since Chancellor Gordon Brown’s assault on trusts, this would also now be the case if we were to use an interest in possession trust, which would have been an option, with the trustees allowing the son to occupy the house but possibly with protective clauses built in.

For IHT purposes, it is therefore necessary to consider what other chargeable transfers have been made within the last seven years. As there have been other gifts into discretionary trusts, so these have to be aggregated to see if tax will have to be paid now.

Fortunately, by splitting the gift of the house, there will not actually be an IHT charge but Peter is steering very close to the threshold of the nil-rate band.

This has then brought us to the next problem, which is the decreasing term insurance that Peter wants to take out on the gift.

If Peter dies within the next seven years, IHT will be payable and this will have a negative impact on his other children. He wants to be equitable by providing a sum of money to cover the tax due as requiring his son to be liable for any IHT would just cause financial hardship for him.

Peter’s history of immediately chargeable transfers means that it will be necessary to look back at the other transfers to see what charges might arise. The mixture of sizeable Pets that would become chargeable on his death and existing chargeable transfers means that death within the next four years could create quite a substantial liability but this tails off as we reach year seven.

I explained to Peter the difference between Pets and chargeable transfers and the fact that his gifts into discretionary trusts made more than seven years ago could still result in a charge. Pets outside the seven-year period cannot become chargeable as they are then exempt but the chargeable transfers remain aggregable.

This is clearly something that came as a surprise to Peter but we are able to calculate the optimum sum assured to cover most of the potential tax charges.

This consideration adds to the difficulty in assessing whether a Pet (making a gift of the house but with some restrictions in the deeds) or putting the house in trust would be the best approach. Peter has decided to take the former route rather than trusts, subject to further legal advice, because of all the complications that the trust route entails.

Mark Bolland is a director at Chamberlain de Broe

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