W has died. She has left a life interest in her half of property (total value of property is £700,000) to surviving spouse.
The residuary estate amounts to about £670,000. 50% of the residue is to pass to surviving spouse and the other 50% to the children of the deceased.
W previously made several gifts amounting to £72,000 in the seven years before death (ie failed PETs).
The property is subject to spouse exemption, as is 50% of the cash ie £335,000.
The lifetime gifts and cash to kids amount to £407,000. Therefore, the estate faces an IHT liability of about £33,000.
I consider that it is possible for surviving spouse and kids to vary the estate so as to reduce the percentage share which they receive. Say kids agreed to a rearrangement whereby surviving spouse receives 65% and they would take 35%, this would mean that there would be no IHT to pay,
Surviving spouse could then benefit the kids independently thereafter from his own cash. As long as surviving spouse survives seven years this reduces IHT liability from £34,000 to nil.
Assuming this is possible, if £34,000 is paid now and DOV is attended to at a later date, can we recover this from HMRC later on by way of Corrective Account. Or, is it better to arrange the DOV asap and submit this to HMRC with IHT400 thereafter.
“independently” is the operative word. There must be a severe risk of any payment by the surviving spouse being seen by HMRC as consideration. Payment in advance looks like the kiss of death as HMRC, being terminally sceptical, are likely to respond to contrary protestations by “pull the other one, it’s got £34,000 on it”. IHTM35091-3.
Of course, the purist’s technical argument is that a genuine gift is not consideration for anything, especially if it plainly derives from resources other than the deceased’s estate. The downside is that HMRC will, after making the clients run up fees in failing to persuade them, simply invite you to see them in court. This will leave the clients with an executed DOV that does not work as intended, may not be capable of being varied or rescinded by mutual agreement without unwanted tax consequences—-like the double dip pitfall, and even if it can be will probably be outside the 2 year time limit by the time a definitive impasse has to be acknowledged. IHTM35093 indicates the questions to be asked and the ominous referral to Technical. No comfort should be drawn from the words “then returns”: a gift preceding the DOV can still be consideration and Manual statements are unreliable as a defence even when they are absolutely categorical.
The counsel of prudence is for the gift to follow the DOV and be made out of clearly identifiable personal resources that pre-date the DOV.
How long after? S.240 IHT applies a time limit on an HMRC challenge after 4 years but 6 for carelessness and 20 for a deliberate act. If the clients are asked by HMRC whether there was a prior agreement among the parties and they all deny it, the stakes may be even higher if there is a later poo/fan interface and a prosecution appears over the horizon.
Even if no further relevant interaction with HMRC is triggered (the gift by a survivor is a non-reportable PET survived by 7 years) someone may dob the clients in and provide the crucial evidence e.g. a party to the DOV who, or whose child or significant other, decides spitefully to satisfy a grudge. Or worse, disclosable evidence of the agreement is obtainable e.g. a telltale email exchange. If LPP is available in principle the iniquity exception may apply if the clients incautiously admit to you that an agreement has been made. Such an admission gives the adviser a problem about continuing to advise.
Lay clients are notoriously naive about the attendant risks of this nature and sadly the more honest and less street-wise they are the more likely they are to make a fatal mis-step. If at all possible the advice on the DOV with a warning about consideration will be given at a juncture that precedes any possible conclusion of any offending agreement. There are of course technical arguments against the validity of a putative contract to make a gift (no intent to create legal relations, past consideration is no consideration) but if the gift is made long enough after the DOV and the parties avoid a prior agreement HMRC will be at a greater disadvantage. It can be observed from the legislation about “onward gifts” of distributions of non-resident trust gains or income within the transfer of assets abroad rules, that HMRC have commissioned anti-avoidance measures precisely because otherwise a genuine gift works. The 3 year safe harbour time limit may well indicate the kind of interval that may make HMRC reluctant to challenge a gift as consideration within s.142(3) IHTA.
There is a substantial residuary estate - I wonder what proportion of that was held in cash. If it was a significant amount, did you consider whether the lifetime gifting was part of an established pattern, part or all of which was out of unspent income? We have had a number of cases where there was not a conscious decision to create a pattern of lifetime gifting out of surplus income, but where the circumstances enabled a claim to be made (commonly where there is healthy occupational or widows pension and the deceased lived frugally but gave money to children and grandchildren).
An alternative to a variation int he terms discussed could be to vary the estate by giving the surviving spouse an increased life interest in part of the residue. If the offending amount of £82,000 were placed into a life interest for the spouse, that would wipe out the IHT initially - or in reality defer it until the spouse’s death. The spouse does not receive the capital, only the income, so ultimately the capital reverts to the children (less tax). That life interest could be broken at a later stage, with some of the capital passing to the children. That would be a deemed PET on the part of the spouse and the seven year clock would start. It gives the family options and a degree of flexibility, subject of course to the caveats identified by Jack as to agreement/consideration/pre-ordained set of transactions etc. Is it worth it for £33,000?