Changes to U.K. Inheritance Tax

Before 2006 inheritance tax had been thought of as one of the easiest taxes to avoid. All that was necessary was some fairly simple planning. Divide assets equally between spouses and write complementary wills, or set up a trust for the children and survive for seven years, and the job was largely done. This was all changed by the 2006 Budget.

The new rules introduce a charge to inheritance tax of 20% when interest in possession trusts or accumulation and maintenance trusts are set up. There is also a charge of 6% every ten years on many trusts and a further charge when funds are distributed from trusts which are caught. Although these are the main changes there are numerous others of a technical nature and it is not clear as yet what the full effects will be. In consequence many wills will have to be reviewed, many insurance arrangements looked at and many existing trusts will have to be varied.

Wills

The new rules limit the terms on which assets can pass freely on death to a surviving spouse or civil partner. Many wills are however drawn in more flexible terms and the price of retaining this flexibility may be the payment of 40% tax on the assets, which pass to the surviving spouse or partner.

Life Assurance

Life insurance has always formed an important part of many estate-planning arrangements and many policies are written in trust. The government has indicated that arrangements in existence as at 22 March 2006 will not be affected, provided they are not changed in any way, but such arrangements should now be reviewed by a tax consultant and any new insurance schemes should only be set up with the benefit of specialist advice.

Trusts

Accumulation and maintenance trusts and Interest in Possession trusts are used in many common family situations, for example,

• To provide an income for a surviving husband or wife whilst maintaining the capital for the ultimate benefit of children or grandchildren.
• Where the parties are divorced, to allow property to be used by one of them whilst the children are minors, after which it is to be sold and the proceeds distributed.
• By parents or grandparents to make provision for children whilst restricting their access to the capital until they are mature enough to handle it.

Under the new rules many trusts such as these attract the 20% and 6% charges referred to above. Some limited planning is possible but only at the cost of utilising the lifetime nil rate allowance or varying the trust.

Business Property

In the light of all the above changes individuals who own share in AIM listed companies, or who have farming interests or agricultural or business assets should take advice to ensure they make best use of the current 100% inheritance tax relief on such assets.

The non-resident angle

The above changes will affect anyone who has moved from the U.K. to take up residence elsewhere and who still retains a U.K. domicile, actual or deemed and they should review their estate planning arrangements in the same way as is suggested for U.K. residents. It is however very important to note that the new rules do not apply to persons who are not domiciled in the U.K. Such individuals still have the ability to place their assets in trusts of which the assets are excluded property for inheritance tax purposes. Not only does such action eliminate the liability they might otherwise incur (even if they return to the U.K), it also enables them to create a structure which will be exempt from inheritance tax, for the benefit of future generations, for so long as the trust exists.

Persons born in the U.K. but whose father was born elsewhere should also take advice. They may well find that they do not have U.K. domicile. They also have a privileged status in that the provisions, which deem an individual to be domiciled in the U.K. after a period of residence, do not apply to them.

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