Case Shows Need For Care in IHT Planning

April 11, 2014

Case Shows Need For Care in IHT Planning

When a woman transferred the lease on her Knightsbridge flat into a trust for the benefit of her two sons, the intention was to provide a benefit to them which would, over time, be free of Inheritance Tax (IHT). Such gifts are called 'potentially exempt transfers' or PETs.

The gift of the lease took place in 1994 and the woman died in 2008. Under the rule that transfers made more than seven years before the transferor's death are not normally liable to IHT, the transfer was not considered to be taxable.

However, HM Revenue and Customs (HMRC) took the view that IHT was payable. The transfer, they argued, was a 'gift with the reservation of benefit'. Such gifts, in which the donor retains some benefit after the gift is made, do not qualify as PETs. The 'benefit' that was retained was contained in the underlease given to the trust, which required her two sons to maintain the property in good repair.

HMRC argued that this obligation was a benefit to the woman, whose own lease required her to keep the property in good repair. Accordingly, if her sons had not maintained the property satisfactorily, she would have been able to require them to make good any defects.

The matter proceeded to the Court of Appeal, which took the view that the benefit conferred on the woman by the repairing clause in the lease had been 'consumed' by the landlord. The clauses in the two leases were mirrors of one another and there was no residual benefit.

This case illustrates the care that must be taken with the documentation in such exercises, as it is easy to see how a small variation in the wording of the sublease to the trust might have left the transfer taxable.