For most people, their family home is their major asset and the one which gives rise to the biggest potential inheritance tax charge. With inheritance tax at 40%, a house worth £1 M with no mortgage can cost an extra £400,000 on the second death. Forbes Dawson LLP can assist with planning to mitigate the potential tax charge.
In years gone by, there was a big tax industry in selling packaged schemes, such as the Home Loan Scheme, to avoid this tax. The Government countered these arrangements by introducing a “pre-owned assets tax” in 2004 which gave rise to an annual income tax bill. This made these schemes very unattractive and as a consequence they are now very rarely used.
In the absence of pre-packaged arrangements, there is now something of a myth that nothing can be done; this is true in some cases, but for many clients, with reasonable disposable incomes or family businesses, there are viable options that should be considered.
Under the inheritance tax rules the property is deemed to remain in the donor’s estate if they enjoy any benefit from ongoing use. There is a let out from this requirement, however, where a full market rent is paid for ongoing occupation. This can be very attractive in some situations as the payment of rent itself reduces the donor’s estate.
A further relief is available where there are sharing arrangements with another family member. In this situation a share of the house can be gifted as long as the donor continues to pay their share of the running costs.
It can often be feasible to gift or sell the house to a trust for the benefit of other family members. This can make the payment of rent more tax effective, as the rental income can be channelled to family members, such as grandchildren, who can avoid income tax on the rent payable.
A more sophisticated version of this arrangement involves the use of an overseas trust which can enjoy significant capital gains advantages if the house is sold after the donor’s death.
As an alternative to a gift of the house, it can sometimes be more effective for the client to remortgage the property so there is a loan secured against the house.
The cash generated from this can then be gifted to other family members , or alternatively invested in assets that qualify for 100% Business Property Relief (BPR).
For instance shares in the family trading company attract 100% BPR if the shares have been owned for more than two years. The shares therefore do not give rise to any Inheritance Tax on death, whilst the value of the house is reduced by the loan.
Where there is not a family company, BPR can be obtained by investing in a portfolio of trading companies listed on the AIM market. Several firms of stockbrokers offer a service which is designed to attract this relief.
In the analysis above, there are of course commercial issues to consider in any investment arrangement. There is clearly no point in investing in shares in order to save 40% inheritance tax if those shares depreciate in value by more than 40%!
From a tax standpoint, there are many other taxes to consider other than inheritance tax. As we have touched on above, income tax and capital gains tax are important issues. In addition, there is SDLT to consider because the house is sold.
Many families can benefit from a strategy to save inheritance tax using a number of the above options. It is vital that best advice is taken to appreciate the advantages and disadvantages of any chosen arrangement so that the risks can be fully appreciated.
Often sizeable savings will not be achieved unless the individuals survive for 7 years after any gifts are made, although a suitable life assurance policy can preserve the benefits even if death occurs.
We approach this kind of planning on a case by case basis and present the client with a cost/benefit projection. This analysis helps the individuals choose the best option and enables them to decide whether it is worth undertaking any planning action.
We are a firm of specialist tax advisers and are very happy to work with other accountants and other professional intermediaries.
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