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Strike while the IHT iron is hot

You will all be aware that the Inland Revenue is looking rather closely at inheritance tax planning schemes. It has lost at least one case heard by the Special Commissioners and accepted wisdom – accepted, that is, by all except the Revenue itself – suggests that it could experience similar disappointments in the not-too-distant future.

So, what is likely to happen next? The Revenue may try to encourage ministers to consider changing the law on inheritance tax. This would be to prevent any further development of packages that the Revenue considers are taking advantage of the current drafting of the legislation. You will recall that this was its reaction after the Ingram case.

However, there is a difference this time. The changes needed to counter schemes like Ingram were fairly simple and narrowly defined. It is likely that any changes to the inheritance tax legislation that the Revenue will now be recommending will be much more wide-ranging.

They could include, for example, the death of potentially-exempt transfers and even the removal of the exemption where trust property reverts to the settlor or the settlor&#39s spouse.

It is possible that ministers will now regard such recommendations in a favourable light. We have had a Labour Government for nearly five years and it has made changes to both income tax (including corporation tax) and capital gains tax.

Inheritance tax, on the other hand, has received scant attention and changes, other than in response to Ingram, have been little more than cosmetic. But can we be sure that any changes in the law will be sufficiently focused? Clearly, there is a danger that any changes could be poorly thought-out and could catch unintended victims.

For example, could the use of discounted gift schemes be brought to an end, possibly even unintentionally? A discounted gift scheme works by allowing the settlor to make a gift and carve out a right which he keeps for his own benefit.

The right comprises the benefit of receiving regular payments from the trust fund for the rest of the settlor&#39s life and forms part of the settlor&#39s estate. Provided we word the trust carefully, the settlor can carve out this right to form a separate part of the trust fund.

Because the settlor keeps the right that he has carved out, it is only the balance that will be a transfer of value. The value of the retained benefits depends on the amount of regular payments and the age and health of the settlor. The value of the transfer of value – or gift – is equal to the amount invested into the trust, reduced by the value of the retained benefits.

For example, a 75-year-old man could decide to put the sum of £100,000 into such a trust for his children. He decides at the outset that he would like to receive yearly payments of £5,000 from the trustees. The trustees decide that they can most easily provide for this by effecting an offshore capital redemption bond, taking advantage of the 5 per cent withdrawal facility with tax deferred.

If the settlor is of average health for a man of his age, an actuary might value his right to receive £5,000 a year for the rest of his life at, say, £41,480. Thus, the value of the gift would be the balance of £58,520. To the extent that this exceeds the available exemptions, it would be a potentially-exempt transfer.

Although there is no debate about this type of arrangement, could any future changes to inheritance tax legislation unintentionally prevent future investors from making use of this opportunity?

The simple answer is that we do not know. But is it worth taking the risk of delaying action? Perhaps you should encourage any clients considering setting up a discounted gift trust – or any other form of IHT plan for that matter – to take action now to avoid repenting at their leisure.

You would be well advised to make yourself familiar with the schemes now on offer. You should consider which companies offer the most flexible arrangements with the most effective technical support and material.

Experience shows that changes to legislation are rarely retrospective but experience also shows that delay can prove very expensive.


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