Monday 18 April 2016

Monday, April 18, 2016 Posted by Jake No comments Labels: , , , , , ,
Posted by Jake on Monday, April 18, 2016 with No comments | Labels: , , , , , ,

In April 2016 the "Panama Papers", a vast document leak revealing offshore tax dodging, reminded us how extremely helpful British law is to the very wealthy around the world

However, one of the biggest and most exclusive UK tax loopholes of all isn't hidden offshore. It is here in plain sight right in front of you in good old Blighty, and it relates to Inheritance Tax (IHT).

We don't refer to the widely known IHT free bequests from one spouse to another. Though that perhaps opens up a loophole for the most determined IHT avoiders whatever their wealth.

We refer to a loophole available to all, but accessible only to the most wealthy. Jesus Christ apparently said "it is easier for a camel to go through the eye of a needle, than for a rich man to enter the kingdom of God." At least the heirs of rich men and women can console themselves that you really need camel-sized assets to go through this particular British tax loophole. The loophole being the Inheritance Tax "7 year rule", whereby you pay no Inheritance Tax if :
  • You give away assets (property, cash, shares, polo ponies, etc.) 
  • AND you take no further benefit from them (e.g. you can't give away a house and continue to live in it, or collect interest from gifted cash, or use the manure from the pony on your roses), 
  • AND you live for at least seven years after the gift

Before 18th March 1986 it was so much easier. You could hand your wealth to your heirs before you drop dead, trust them to look after you, and escape inheritance tax. For instance, gifting your home: while your home would legally belong to your kids you could still live in it, and so long as you survived 7 years there would be no inheritance tax on it. 

The only risk you took was that the new owners of your property – your kids – would throw you out on the streets. In the words of Roy Jenkins, a former Labour Chancellor of the Exchequer, Inheritance Tax was “a voluntary levy paid by those who distrust their heirs more than they dislike the Inland Revenue.” 

From 18th March 1986, for the transfer to escape inheritance tax you would have to obey the "7 year rule". The economics of comfortable living and death duties are merciless. If you are moderately wealthy, with assets of £1.5 million, consisting of a £750k home plus £750k other assets (cash, equity, buy-to-let, and the like) providing an income of £30k per annum, then you probably need to keep these assets until you die to provide a place to live in and money to live on. When you die, because you were unable to give away your assets, a large proportion of your wealth will go as inheritance tax.  

However, if you have assets of £10million, then the bulk of this wealth is not required for your ‘subsistence’ in old age. Holding on to your home and keeping enough to generate a reasonable income, you could safely ‘give away’ £8 million to your heirs, potentially avoiding IHT completely on that wealth. If you are fearfully wealthy – the following table, for a single person dying in 2015/16 speaks for itself:

In the above examples, the Moderately Wealthy individual, without surplus assets to give away, pays 31% of their wealth in IHT. The Significantly and the Fearfully Wealthy individuals pay 7% and 4% in IHT respectively.

An example of how the exceedingly wealthy navigate their way around IHT is given in a book, "The British Tax System", by John Kay (academic, author, and FT columnist) and Mervyn King (formerly governor of the Bank of England):

“It is clear that individuals who are obviously far from being paupers may die leaving estates for tax purposes that bear little relation to their real wealth. 

It is generally believed that the largest sum ever paid in death duties, by a considerable margin, was the £11 million paid on an estate estimated at between £40 million and £60 million on the death of the third Duke of Westminster in 1953. 

On the subsequent death of the fourth Duke, his reported estate was a little over £4 million, on which estate duty came to around £1 million. In fact not even this sum was paid, since after a protracted legal case it was resolved that the Duke (who was partially disabled by war wounds received in 1942 and who died of cancer 1967) was entitled to the benefit of an exemption from estate duty for those killed on active military service. 

The fifth Duke died in 1979, and press reports then estimated that the family fortune controlled by the new Duke of Westminster was between £300 million and £800 million. Again the reported estate was expected to be less than £5 million (Daily Telegraph, 20 February 1979).”

Evidently loopholes will be opened when the need arises. The fourth Duke of Westminster was wounded in 1944, and died of cancer 23 years later. His executor seems to have successfully argued, for the purposes of Inheritance Tax, that the Duke was deemed to have been killed on active service. 

David Cameron's father Ian was a significantly wealthy individual. According to the Sunday Times Rich List Ian Cameron had an estimated £10 million in assets in 2009. Following his death in 2010, his Probate showed UK assets of £2.9 million (N.B. the Grant of Probate doesn't reveal offshore assets). According to a report by the Guardian newspaper, some years earlier Ian Cameron had gifted properties in Berkshire and in Kensington to his children (not including David, who received £300,000 in Ian Cameron's will plus a further gift of £200,000 from his mother a year later).

Even for the very wealthy things aren't as simple as that. One finds oneself playing a game of Chicken with the Grim Reaper (a.k.a. the taxman), trying to guess when one has just over seven years left. After all, one wants to be in full control of one's assets as long as one can. According to Office for National Statistics data for 2014, about 10% of people lived beyond 84 years. If you want a 50-50 chance of giving away your stuff in time to avoid IHT, perhaps consider handing it over by your 73rd birthday. On the other hand, there is a fair probability you would spend more than a decade without your stamp collection and granny's Renoir.

The statistics provide a pretty good idea, but not really enough to be quite sure.

Of course, if a benefactor's estate is big enough then it may become cost effective for the heirs to keep him or her on life support, or at least well hidden and plausibly fresh, until the requisite seven years is up.


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