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Tony Wickenden: Making the most out of the tax reforms

Tony Wickenden Tax Planning Technical Area

Last week I started my consideration of the outcomes from the various consultations on tax change with a look at the provisions for qualifying policies.

I considered the new limitations (to a £3,600 maximum annual contribution for “new, post 5 April 2013, policies”) and the transitional rules for those issued between 21 March 2012 and 5 April 2013.

I will start this week by looking at how the vast number of pre-21 March 2012 policies will be affected by these provisions.

Subject to what is stated below, these policies will remain unaffected by the new provisions and their qualifying status and the benefits of it will continue.

The provisos are as follows:

  • If the premium paying term of an existing policy is extended on or after 21 March 2012 either by substitution, variation or by the exercise of an option within the policy and the premiums payable exceed the new premium limit on its own or when taking into account other policies issued on or after 21 March 2012, then the policy will become a restricted relief qualifying policy (RRQP). This will mean that relief will be restricted to chargeable event gains attributable to £3,600 of premiums paid in any 12 month period beginning on or after 6 April 2013 or the date of variation if later.
  • If the premiums payable under an existing policy are increased on or after 21 March 2012 either by substitution, variation or by the exercise of an option within the policy, then the existing rules for variations/substitutions (in paragraphs 17 and 18 of Schedule 15 ICTA 1988) should continue to apply to treat the policy as a new policy for the purposes of testing qualifying status. The £3,600 limit will be treated as one of the qualifying conditions for the purposes of these tests but where an adjusted policy cannot meet the paragraph 17 criteria because the limit has been breached, the policy will become a RRQP with relief restricted to £3,600 in any 12 month period beginning on or after 6 April 2013 or the date of alteration if later.
  • Insurers will not have to report on policies issued before 21 March 2012. Where such a policy is altered on or after 6 April 2013 but the annual premium limit is not breached then the altered policy will remain a qualifying policy if the beneficial owner of that policy declares to the insurer that the limit has not been breached. If the insurer knows that the alteration of the policy has resulted in a breach of the limit or does not receive the appropriate declaration from the beneficial owner of the policy, the policy will then become an RRQP.
  • Legislation in the Finance Bill 2013 will exclude existing mortgage endowment policies from the new annual premium limit even when modified on or after 21 March 2012.

A number of improvements have been introduced from the pre-consultation proposals. In particular:

  • The ability to have more than one beneficial owner of a policy without automatically losing qualifying status;
  • The ability to be able to assign the policy in certain circumstances including an assignment to trust; and
  • The exclusion of pure protection policies from the rules altogether

…will make matters much easier.

Despite these welcome relaxations, the use of a qualifying policy as an effective tax shelter for unlimited premiums as a ‘pension alternative’ has been effectively halted. Of course, there is nothing to stop the use of the new £3,600 limit to build up some benefits that can be taken tax free. In practice, though, it seems that few, if any, providers are prepared to facilitate this.

Inheritance tax and non-UK domiciliaries

In the Budget 2012, the Government announced that it intended to introduce legislation that will:

  • Increase the IHT-exempt amount (‘the exempt cap’) that a UK-domiciled individual can transfer to their non-UK domiciled spouse or civil partner, and
  • Allow individuals who are domiciled outside the UK and who have a UK-domiciled spouse or civil partner to elect to be treated as domiciled in the UK for the purposes of IHT.

The changes will reform the IHT treatment of transfers between UK-domiciled individuals and their non-UK domiciled spouses or civil partners in two ways:

  • The “exempt cap” will be increased from £55,000 to the level of the prevailing nil rate band (currently £325,000) limit at the time of the transfer
  • Under a new election regime, non-UK domiciled individuals who are married or in a civil partnership will be able to elect to be treated as UK-domiciled for IHT purposes.

Where an individual chooses not to elect for UK-domicile treatment their overseas assets would, as now, be exempt from IHT but any transfers from their spouse will be subject to the increased ‘exempt cap’. Individuals who choose to make an election will benefit from an unlimited exemption on transfers from their spouse or civil partner.

However, subsequent disposals by them would be liable to IHT (subject to their own nil rate band), irrespective of the location of the assets.

The increased cap will apply to transfers after 6 April 2013.

How the election will work

The election will only affect an individual’s treatment for IHT purposes. It will not, for example, affect their eligibility for remittance basis treatment in relation to income tax and capital gains tax.

Electing into UK-domicile treatment for IHT purposes will mean that transfers from a UK-domiciled spouse or partner will be exempt from IHT, but the electing individual’s worldwide estate will be liable to UK IHT.

The election will need to be made in writing to HMRC – there will be no prescribed form. It may be made at any time after marriage, or registration of the civil partnership. Elections made while both of the couple are alive will take effect from the date the election is made.

The first opportunity to make such an election will be the date of Royal Assent to Finance Act 2013.

The election will be irrevocable. However, if the individual who has made the election is non-UK resident for three consecutiveyears, the election will automatically lapse.

Irrespective of whether a non-domiciled married person makes an election, they will benefit because of the increase in the exempt amount they can receive from a UK domiciled spouse.

Care needs to be exercised on making an election to be treated as UK domiciled for IHT purposes – particularly for those people who hold substantial overseas assets and wish to eventually pass those assets on to their children/grandchildren

In these circumstances, an excluded property trust may represent a better form of planning. Certainly this should be put in place before an election is made.

Tony Wickenden is joint managing director at Technical Connection

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