For many married couples and civil partners, the inheritance tax reforms announced by the Chancellor in the pre-Budget report and included in the Finance Bill 2008 might suggest a return to much simpler estate planning.
This is on the basis that for those spouses who have combined taxable estates of up to £624,000, it will be comparatively easy to avoid IHT on the second death by leaving all the assets on the first death to the survivor and for the survivor’s personal representatives to claim the transferable nil-rate band of the first to have died. In the right circumstances, this will give a 100 per cent uplift to the survivor’s nil-rate band of £312,000 for 2008/09.
Yet it should not always be assumed that inter-spouse transfers will be the best approach. In some cases, there may be legitimate reasons for one of a married couple or civil partnership to make gifts on the first death to, say, children or to a will trust that are not covered by the spouse exemption. Indeed, for a number of couples, the use of a discretionary will trust may still appeal, particularly in cases where a couple are on their second marriage with children from a first marriage or there is a concern to avoid the proceeds of the house ending up in the hands of the local authority after the first death as a result of the provision of care services.
The best of both worlds – a first-death trust and a transferable nil-rate bandIn other cases, there may well be a desire on the part of each spouse to use the transferable nil-rate band on the second death, yet a reluctance to make outright gifts to the surviving spouse on the first death.
In such cases, the assets of the first to die could be left to a trust giving the surviving spouse an interest in possession, with the trustees having a power to make appointments of benefit to children or grandchildren. The spouse’s interest would count as an immediate post-death interest so the spouse exemption would apply on the first death, yet it would be the trustees who would have the power to release assets from the trust in favour of children or grandchildren.
Provided that such releases conferred an absolute interest in favour of the children or grandchildren, they would count as potentially-exempt transfers made by the surviving spouse and, of course, provided that he or she survived these by seven years, no IHT would arise on those deemed gifts. On the second death, both nil-rate bands (strictly speaking, double the nil-rate band at that time) would be available to the surviving spouse.
It should be borne in mind that any release of interests in favour of children or grandchildren would deprive the surviving spouse of access to the income or capital of the assets released.
Making a claim for the transferable nil-rate bandSo, what precisely are the terms and implications of the new legislation on transferable nil-rate bands?
Well, the draft legislation proposed in the Finance Bill 2008 allows for a claim for the transfer of any unused nil-rate band on a person’s death to the estate of their surviving spouse or civil partner, who dies on or after October 9, 2007, irrespective of the date of death of the first spouse to die.
Those spouses who wish to rely on the transferable nil-rate band in their planning, whether by way of outright gifts on the first death or transfers via the will to immediate post-death interest trusts, will need to keep detailed documentation, perhaps for many years, and be aware of the necessity for their personal representatives to make any claim in the prescribed timeframe.
In this respect, clients will need to bear in mind that any claim by their personal representatives that relies on using part of the transferable nil-rate band of a previous spouse would be subject to a formal claim being made. A claim must be made within 24 months from the end of the month in which the survivor dies and will be made by the personal representatives or somebody who suffers an IHT liability on that estate.
The Budget 2008, now the Finance Bill 2008, has relaxed the position as regards claims where the spouse who dies first is entitled to a transferable nil-rate band because of the death of a previous spouse. For example, let us assume that Joe’s first wife Sally died without using any of her nil-rate band. Joe has now married Jackie. Joe is entitled to two nil-rate bands on his death – his and that effectively left to him by Sally. However, it is important to bear in mind that if Jackie dies before Joe without using her nil-rate band, the maximum increase to his nil-rate band is 100 per cent, even though he has two previously deceased wives, neither of whom used their nil-rate band.
What if Joe dies before Jackie? What is the position on Jackie’s subsequent death? Two views existed on the interpretation of the legislation in such a case.
Let us take an example and assume that Joe left £312,000 to a discretionary will trust on his first death. What would be Jackie’s entitlement, if any, to increase her nil-rate band on her subsequent death? The two views were:
l As Joe has used 50 per cent of his overall nil-rate band entitlement (£312,000 out of £624,000), Jackie becomes entitled to an additional nil-rate band entitlement of 50 per cent, which is applied to the amount of nil-rate band at the time of her death.
l As Joe has used £312,000 of his overall nil-rate band entitlement (£312,000 out of £624,000), one applies the formula in Section 8A(4) IHT Act 1984 which means that Jackie becomes entitled to an additional nil-rate band entitlement of £312,000 (a 100 per cent multiplier).
HM Revenue & Customs has now confirmed that the second approach is correct and, indeed, it seems that most lawyers take this view.
This means that people in such circumstances can now more confidently put in place planning to maximise the new tax relief. In the case of Joe and Jackie, the following planning should be adopted:
l In the event of Joe’s death before Jackie, Joe should leave £312,000 (or the nil-rate band at the date of his death) to a discretionary will trust under which Jackie is a potential beneficiary. This will utilise £312,000 of his nil-rate band meaning that Jackie becomes entitled to an extra £312,000 on her subsequent death, giving her £624,000 in total.
l In the event of Jackie’s first death, she should leave assets equal to the nil-rate band to a discretionary will trust. This will use her nil-rate band. However, on Joe’s subsequent death, he will still be entitled to two nil-rate bands – his own and that in respect of his first wife, Sally.
As I mentioned earlier, it is necessary for the personal representatives of a deceased to claim a transferable nil-rate band within two years of that person’s death. What if such a claim has not been made? Does that prevent later use of that transferable nil-rate band? For example, say that Joe dies first and under his will he establishes a nil-rate band will trust for £312,000. If his personal representatives have not claimed the transferable nil-rate band from Sally’s estate within two years of his death, does Jackie lose her entitlement to it on her subsequent death?
Until recently, this was the position but the Budget 2008 and subsequent Finance Bill 2008 have now introduced provisions that mean that in such a case, Jackie’s personal representatives can make a claim for the transferable nil-rate band within two years of her death, even though that nil-rate band relates indirectly to Sally’s estate.
Evidencing the claim for a transferable nil-rate bandAs regards the general position for claiming a transferable nil-rate band, certain documents will need to be provided in support of the claim which, according to the latest guidance issued by HMRC, will include the death certificate for the first person to die, a copy of any will and any grant of probate, together with the marriage or civil partnership certificate for the couple. Other evidence may also be required by the survivor’s personal representatives and HMRC, including:
l Any documents submitted in support of the application for the grant on the first death and the return to HMRC (form IHT205 or IHT200) andl Details of any other assets that were chargeable and did not pass under the grant. This could include assets owned jointly with another person or held in trust. Assets owned in joint tenancy will pass directly to the surviving joint owner.
Furthermore, an individual who has a life interest under a trust which is an immediate post-death interest or a pre-March 22, 2006 interest in possession will be regarded as owning the trust assets for IHT purposes.
If entitlement to these assets passed on the first death to somebody other than a surviving spouse or charity, the transfer would use up part of the deceased’s nil-rate band.
A copy of any deed of variation which varied the terms of any relevant will or the intestacy provisions is also likely to be required, as are details of any lifetime gifts to persons other than the spouse which were made by the first to die in the seven years before their death. Evidence of the valuation of these gifts may also be required.
Further, any gifts that are caught by the gift with reservation of benefit rules will use all or part of the nil-rate band which would otherwise be potentially transferable. Details of these gifts, including their value at the date of death, will also be required.
As will be apparent, the survivor’s personal representatives will need to know full details of the assets which are likely to affect the transferable nil-rate band available along with supporting valuations, in addition to details of any exemptions or reliefs taken into account in arriving at the chargeable values on the first death. In light of this, it would seem sensible that such information and documents are held by the surviving spouse with their will.
This will usually be kept by the family’s lawyers and, as such information may not be required for many years, it seems sensible that in any case where a future claim for the transferable nil-rate band might need to be made, then lawyers should be instructed to compile and retain that information following the first death. This could potentially save considerable expense and delay on the survivor’s death.