The Disclosure of Tax Avoidance Schemes (DOTAS) are often thought to apply only to those doing extravagant and "edge of the seat" type planning.
But some fairly mainstream Inheritance Tax (IHT) planning will now have to be disclosed under new rules that came into effect on April 1. There is no longer the helpful “grandfathering” principle that, since 2011, has meant there was no need to report established planning arrangements.
HMRC’s 12-page guidance, published only a couple of days before the new rules came into force, is now essential reading for any professional advising on IHT planning. It gives 18 examples of planning, confirming that most straightforward steps taken to save IHT do not have to be notified.
The new rules have two elements. One is a two-part test, under which two conditions must be met before DOTAS applies. The other element is that it must be reasonable to expect a hypothetical “informed observer” to conclude that both conditions are met.
Condition 1 is that the main purpose, or one of the main purposes, of the arrangement is to:
Avoid/reduce IHT on a lifetime gift to, or a 10- yearly or exit charge within, a trust
Escape reservation of benefit, unless the pre-owned assets income tax (POAT) charge applies
Reduce the value of the estate without giving rise to a chargeable transfer or potentially exempt transfer.
Interestingly, planning designed to reduce 40% IHT on death is not within Condition 1.
Condition 2 is simply that the arrangements must also involve one or more “contrived or abnormal steps” without which the tax advantage could not be obtained.
Both conditions need to apply, so, if Condition 1 is not satisfied, there is no need to consider 2.
The informed observer test is a new one for IHT planners, rather different from the “man on the Clapham omnibus”. The observer is well informed, but not an expert or even a tax practitioner, and assumed to be aware of the non-tax benefits of the arrangements, the substance of them and the documents, as well as HMRC Guidance and published statements. That’s quite a lot of understanding.
A specific exception will usually apply only to some life assurance based schemes, to enable continuity. This is where proposed new arrangements are substantially the same as “related arrangements” entered into before 1 April 2018 of which HMRC had indicated their acceptance. So an existing life assurance based scheme can be continued, and tweaked just a little, without fresh notifications.
HMRC’s examples include confirmation that a gift and loan trust is outside Condition 1, because there is no reduction in a person’s estate, only a capping of the value liable to IHT. Straightforward gifts to trusts and gifts in wills and by deed of variation seem to be OK. A settlement of non-UK assets by a non-domiciled person to preserve excluded property status (in case the person becomes domiciled) is acceptable.
But two examples are said to be notifiable. One is the creation of a “reversionary lease” – this is, typically, a lease that does not come into effect for 20 years after its creation, but is then for 299 years, with no rent. This will be given away, to give the grantor 20 years’ continued occupation (or continued receipt of rents) without a reservation of benefit, while leaving the asset with a minimal value once that 20 years has elapsed. HMRC regard this as something that an informed observer would consider contrived or abnormal.
The other is the use of an employee benefit trust by a sole shareholder to pass on shares in a company to his children who are fellow-directors. The estate is reduced but no chargeable or potentially exempt transfer is triggered. The informed observer, say HMRC, would conclude this was a contrived step, used only for tax advantage.
A third example, that would usually be notifiable, is a gift into a trust of shares qualifying for business relief and, shortly afterwards, buying the shares back again. This is regarded as a contrived alternative to putting cash straight into the trust and incurring an entry charge.
These examples do give an insight into HMRC thinking on “tax avoidance”. It is wider than traditionally assumed.
The fact that something needs to be notified does not mean that it is necessarily wrong or a problem. It just means that HMRC have notice of what is being done and have a chance to challenge it, or even bring in provisions to address the issue if they feel it is warranted. And it may frighten some clients.
Published: 24 April 2018
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