Discretionary Trust Spouse Undertakings-Tax due on Indexation?

I have an old NRBDT (dating from 2007) which contains a Spouse Undertaking, subject to Indexation in line with the RPI, per Mr Kessler.
I am now seeking to wind up the Trust, repaying the current Indexed value of the Spouse Undertaking from the sale proceeds of the property.
HMRC Trusts say that the increase in the Indexed value is interest, and is taxable under s.369(I) ITOA 2005.
I certainly do not agree, and have asked HMRC to provide a decision showing their position is correct.
Has anyone had experience of dealing with HMRC on winding up a NRBDT containing one of these Spouse Undertakings, and if so, what was the outcome?
I look forward to any comments with interest.
Anthony Freelove
Terence Willey & Co

I’m afraid you’re going to have a long wait to get a detailed response from HMRC. I have posted a number of updates on the old TD forum regarding the case I have . My first posting was on 26 June 2014 and my last was on 16 January 2015. How time flies!
Needless to say I am still awaiting a decision. Last week I received a reply from one of the compliance investigators to a letter I wrote on 28 January 2016. My letter was prompted by a posting on the forum from Oliver Marre on 26 January wherein he said “I’ve have some success corresponding with HMRC on this point, even where JK QC precedents were not used. I am sure I’m not alone in this at the junior bar, but can’t speak for others”. As it happens, my case arose out of a Will drawn by any Will Writing Company, which did not use a JK precedent. HMRC has so far stood its ground saying that the indexation is interest taxable under S369. In a letter they wrote to me on 19 Nov. last, they state that it is HMRC’s intention to litigate on the issue being contested between themselves and the profession but that they do not currently have a test case lined up to be heard by the First Tier Tribunal and that they are in the process of moving cases forward towards that goal. I fear we may see Cardiff getting into the Premier Division before this is resolved and by then I will be long retired, I expect!

Patrick Moroney
BWL Solicitors

I resisted income tax being charged, in 2014, based on Mr Kessler’s arguments as set out in his book (the IOU documents were sufficiently similar to the Kessler precedents, in that case). HMRC accepted the argument and did not pursue it.
Penny Wright
Gardner Leader

Well I used the same arguments and I cannot understand why HMRC has failed so far to accept my contention that there should be no tax liability. Could it be that I paid the tax (in order to avoid interest should I be wrong) but made it absolutely clear that the trustees did not accept HMRC’s view and would seek to have the tax repaid should the tribunal find in favour of the taxpayer. Incidentally I have not been asked to provide copy of the will so that it cannot be because a JK precedent was not used. Am I just unlucky that the officer dealing with my case has a different view from the officer who dealt with yours? It is most Worrying if that is the case as surely all officers must adhere to the same standards. In the latest letter I have received the officer has stated that he is referring to his colleagues so hopefully that will have the desired result but I am not holding my breath.
There must be others dealing with cases like these who have either had success or so far failure
Patrick Moroney
BWL solicitors

I have just had a letter from HMRC with the exact same response i.e… it is interest and therefore taxable.

Are there any updates to this issue? At the moment I am just having to advise the client to follow HMRC’s request for a Return and to pay the tax due. In my case it is certainly not worth litigating.

Jess Williams
The Head Partnership Solicitors

I have had a rejection of the Kessler documents.

I have written back to HMRC saying that we will not be submitting a Trust &
Estate Tax Return, as the documents clearly state that there is no interest

I have also advised HMRC that I will refer the issue to Mr Kessler for him
to take up, if they do not change their position.

I feel that HMRC must be challenged on this issue-perhaps my case will be
the Test Case HMRC are looking for.?

Anthony Freelove
Terence Willey & Co

I have had a number of enquiries on this topic recently, so it may be helpful to raise it again on the Trusts Discussion Forum.

For the reasons set out appendix 4 of my Drafting Trusts and Will Trusts (13th ed, p.611) I continue to think that index-linking a nil rate band debt is not “interest”, and not subject to income tax.

In my book I say: “The amount of tax at stake in any one case is likely to be small but (to avoid cases settling by reason of the costs of defending what is right) we would be prepared to act on a pro bono basis if this were challenged in relation to a document drafted in the form in our book”, and I stand by that offer.

I would consider doing the same for other precedents, but would want to take a case where the document has the best wording, and so the best chance of success. In particular, along with the other arguments, it would be good to be able to take the point that index-linking is not like interest, as in the event of deflation, the amount payable by the surviving spouse (or her executors) would decrease. That seems to me to be quite an attractive point. Often the drafting of the covenant is not like that: the amount payable is the greater of the Loan and the index-linked loan: it cannot go down. I don’t think that means the payment is interest, but that is not the “best case” which is the one I would most like to see litigated as the test case.

HMRC have in the past given up in the cases I have taken on, and I don’t myself have any current ones at present.

As far as I know there is currently no action group of those affected, though if a member of the forum would set one up, it would be beneficial.

James Kessler QC

Old Square Tax Chambers

Lincoln’s Inn

As usual spot on, James.

This may be less so, but might be relevant in certain cases, although its underlying logic would need an economist.

There is a significant decrease in the economic value in the currency and its buying power anyway over the long term, as anyone keeping an eye on their household budget appreciates.

Whilst that can be ignored in short term income tax assessment, IHT is simply not the same span of taxation.

Indexation allowances for CGT were abandoned as the Treasury realised that it had a perennial windfall tax potential on its hands.

There is no reason why that aspect should not be factored into the final tax event at the end of the taxpayer’s life and the transfers of value.

There is no reason why the Treasury should reap any advantage from that aspect of its captive subsidiary’s “management” either of the exchange rate or of the money supply.

Peter Harris


At long last, I recently received a decision from HMRC regarding our claim that indexation was not liable to be taxed as income or capital gain. With their letter HMRC sent an appendix running to 3 pages setting out their view as to why indexation is taxable as income. In the 1st paragraph they state:-

“HMRC remains of the view that the indexed uplift of the the principal loan in the case currently under enquiry is chargeable to income tax as interest under s369 (1) ITTOIA 2005. It is HMRC’s view that only if, broadly speaking, the loan carries a commercial rate of interest in addition to the uplift to the principal determined by reference to the Retail Price Index (RPI) or any similar index, the uplift may be regarded as capital (and only then provided that the loan agreement specifically referred to the relevant index). In any other circumstances the uplift is taxable as interest within s369”

They then go on to quote from the legislation and from various cases in support of their view.

Fortunately in my case, we paid the tax when it was due but made it clear that the trustees did not accept HMRC’s view for the reasons quoted in James Kessler’s Drafting Trusts etc.

Although there is a right to appeal against the decision and a right to request an independent internal review, it seems to me that there is little point in doing this. Incidentally the tax liability was, as previously stated in one of my postings, just over £30,000.

I wonder if others have had the same decision from HMRC.

Patrick Moroney
BWL Solicitors