On reflection I think the rules will work effectively when the contingent legacy is a fixed sum of money and not the specific asset itself. When the gain arises the fiction that residue is ascertained (whether it is or not) seems to operate to make the residuary beneficiary (or all of them) beneficially entitled to the policy rights, so the taxable gain is deemed to be estate income. A residuary beneficiary with a limited or discretionary interest is taxed only on what is received and this is true ultimately of an absolute interest due to a final year adjustment mechanism in the charging provisions. If the gain as deemed estate income can be actually paid out in the event it will be taxed, otherwise not.
My analysis following Paul’s comment is was follows.
Under the chargeable event gain legislation an individual is liable for income tax only if at the time of the event giving rise to the gain the individual beneficially owns the rights under the policy (s465(2)). In the present case if the gain is made prior to the legatee attaining age 25 (ie no vesting has occurred) the the legatee cannot be subject to income tax on the gain.
Prior to vesting the rights etc under the policy are those of the PRs.
However, on the above basis, at the time of the event gain none of the residuary beneficiaries have any beneficial interest in in any rights under the policy and cannot prima facie by subject to tax on the gain. This would certainly seem to be the case if at the time the gain arose, residue had not been ascertained.
However, assuming residue had in fact been ascertained at this time, then a sole residuary beneficiary entitled to an absolute interest in residue would have a beneficial interest in the policy but with any tax liability in respect thereof arising on receipt of actual payment.
In the case of a residuary beneficiary with a discretionary interest in residue, no beneficial entitlement arises (if at all) until the discretion is exercised. If such exercise occurs after the gain has arisen I’m not sure that on receipt of payment such residuary beneficiary is subject to tax on the payment.
This thread has highlighted uncertainties in the law which are not resolved in IPTM or TSEM even for HMRC’s own approach. At the risk of adding to this esoteric discussion I will make my own summary. But badly thought out fiscal legislation is a general hazard for us all leaving not only taxpayers and advisers but HMRC and judges to wrestle with it, the last two unconstitutionally despite best intentions. Some examples are so gross, and denounced by experts both in advance and when practical issues later arise, that the worst intentions can sometimes be fairly attributed to HMG.
1 S466 (1) ITTOIA only charges PRs to basic rate on gains from certain policies e.g. offshore ones.
2 s466(3) specifies the only alternative treatment as s664 (see (2)(e) of that). But that is about estate income of residuary beneficiaries. If that is not relevant PRs as such cannot be taxed on an onshore policy gain.
3 An individual owning beneficial rights in the policy, or trustees, can be charged, subject to credit for basic rate with an onshore policy. But during the admin period PRS are not trustees and it is not totally clear that even an absolute legatee of a policy has the requisite statutory beneficial right (though very probably, as it is only limited by the PRs’ potential need to use it for liabilities and by deferral in actual payment or transfer).
4 If the legatee’s right is contingent (specific gift of policy or, perhaps, appropriation of it to answer pecuniary legacy) it is not clear if the requisite statutory beneficial right exists where the gain arises before vesting or failure of condition. The policy gain (as an integral part of the proceeds) will devolve either on the legatee or according to any gift over but not necessarily as residue (could be on partial intestacy) and this may not be determinable for some time after the gain arises. It seems that this gain cannot be charged on the PRs under s466, which is just as well as they are clearly not entitled to credit under s530. It will eventually devolve on an individual or trustees but there is no wait-and-see assessment mechanism. There is no provision equivalent to that for residuary legatees directing that the rights of contingent beneficiaries be determined as if residue had been ascertained, not even on a receipts only basis. And nothing like s91 IHTA or a deeming of PRs to be trustees.
In my view where there is no clear charge there can be no tax; just as when there was a clear charge, as in Lobler, it had to be upheld however monstrously unfair and presumably unintended. And not saved by Procrustean contextual or purposive construction but by the Upper Tribunal implausibly pulling rectification out of Equity’s curmudgeonly goody bag of Discretionary Remedies. This is not right. HMG should listen to warnings prior to enactment and put anomalies right quickly and retroactively. Just as it does with defective charging provisions where it reinstates “the original view” viz the one held by a court to be Wrong.