FAQs during Covid-19: estate planning

What issues does Covid-19 present in the estate planning context?

Massive public spending during the Covid-19 crisis means the government will almost certainly increase taxes in the short to medium term. Additional austerity seems implausible and government borrowing is already stretched. The government will be emboldened in its revenue-raising task by the combination of a solid parliamentary majority and the grim acceptance by the electorate for the need to pay for the clear up after the Covid-19 storm.

Successive governments have shied away from making politically unpalatable changes to the tax system. Reforms may now be pressed through in a moment of opportunistic legislative fervour. Changes to capital taxation would not have been a great surprise in the 11 March 2020 budget, and such thinking may have been abandoned in the impending Covid-19 panic; these changes could reappear in an emergency budget.

Anticipated changes to the capital tax rules is something we have been discussing for a little while now, and have therefore been urging our clients to actively review their estate planning options, so as to make the most of the current relatively benign capital tax regime, whilst that is still possible rather than as 'disaster recovery'. The government showed its intent in the most recent budget by reducing the lifetime allowance for Entrepreneur's Relief, from £10 million to £1 million.  The likelihood of further capital tax reforms is now greater than ever.

We also provide some practical updates below on complying with the rules on conditional exemption for heritage assets and how to deal with delays in obtaining Inheritance Tax valuations.

What form could capital tax reforms take?

Business Property Relief ('BPR'), a form of Inheritance Tax relief, is perhaps something that could be subject to particular scrutiny and which, if altered, could have a great impact on succession planning arrangements many clients have already put in place.

Similarly, if Agricultural Property Relief ('APR') was changed (and the allowance given in regard to let land feels perhaps like a particularly vulnerable provision), the ramifications could be widely felt.

The tax-free Capital Gains Tax uplift on death, where the value of an asset is rebased, is also an area which has been highlighted as one for possible reform.

An indication of the direction of policy might be gathered from two recent reports.  Whilst these reports resulted in recommendations only, which the government may or may not choose to implement, it is interesting to note the issues that they raise.

a)     All-Party Parliamentary Group on Inheritance and Intergenerational Fairness ('APPG') report, January 2020

Proposals included the reduction of the rate of Inheritance Tax to 10% on estates up to a value of £2 million, and to 20% on the value in excess of that. Importantly, the tax would be levied on lifetime gifts as well as death estates.

There was also a suggestion that the 'seven year gifting rule' should be withdrawn, meaning significant changes to planning involving lifetime gifting for those with the foresight to engage in estate planning.

The APPG also recommended  some other fairly radical reforms including the abolition of valuable inheritance tax reliefs including BPR and APR, and the removal of the Capital Gains Tax uplift on death. This particular tax rule has been described as 'inefficient and inequitable' by tax experts and seems particularly vulnerable to reform.

The rationale behind the proposed changes appears to be to remove the incentive for owners of property eligible to BPR and APR to hold onto their assets until death to claim the relief and obtain a Capital Gains Tax uplift on death. Doing so is currently a sensible option for many farmers and landowning clients.

b)     Office of Tax Simplification's ('OTS') reports on the review of Inheritance Tax, January 2019 and July 2019,

The OTS recommended changes to BPR which could effectively result in tightening what is commonly known as 'wholly or mainly' test.

Informed readers will know that generous Inheritance Tax treatment may apply to a composite business with mixed trading (e.g. farming) and investment (e.g. let cottages) activities. Currently, if the trading part of the business exceeds 50% of the business, i.e. is 'wholly or mainly' trading, then BPR may be claimed on the value of the whole enterprise such that no Inheritance Tax is payable on a death or gift into trust. This principle was confirmed in a celebrated case known as Balfour.

The OTS recommended that this treatment is overly generous and that the threshold for a business to qualify for BPR might be increased so that the business must be at least 80% trading. This would bring the Inheritance Tax definition of trading business in line with Capital Gains Tax.

The OTS also recommended that the Capital Gains Tax uplift on death should be removed (as did the APPG), but only where it applied to assets eligible for BPR or APR

What does this mean for taxpayers undergoing Balfour planning exercises?

If the threshold for a 'wholly or mainly' trading business for BPR purposes is increased to 80%, then previously carefully structured businesses may need to be reviewed and  investment assets removed so as to rebalance the trading v investment weighting

Where businesses e.g. family partnerships, are in place and which may currently benefit from the decision in the Balfour case, then  it may well be worth considering banking their relief by making  gifts or transfers of interests in the business which may have already been contemplated but not yet actioned at the soonest opportunity.

What is the advice for a taxpayer who holds financial investments and investment property – i.e. where APR and BPR are not available?

There are two important points to make regarding non-relievable assets. The first concerns the recent collapse in share prices. The combination of reduced share prices and a relatively benign rate of Capital Gains Tax (20%) could make it sensible for some taxpayers to give investments away now and to pay Capital Gains Tax on them, if they can afford to do so.

Property values change more slowly, being an illiquid market, but the same advice may apply to property in the future if the market falls significantly.

It should be remembered that Capital Gains Tax has applied at lower rates than income tax only since 2008. The discrepancy was criticised last year in a report by a left-wing think tank, the Institute for Public Policy Research, for policy reasons. Capital Gains Tax is surely therefore more likely to go up than it is to go down.

The second point concerns the 'seven year rule' in the context of lifetime gifts, which is a critical and generous exemption to Inheritance Tax. Broadly speaking, a gift of any amount will fall out of charge to Inheritance Tax as long as the donor survives seven years from the date of the gift.

Why is this exemption vulnerable? Ireland and France are neighbouring countries where tax is immediately payable on lifetime gifts over a certain value, regardless of how long the donor survives. The seven year rule has not always applied in the UK, having been introduced in 1986. Government may be encouraged to remove the seven year rule to increase tax receipts and perhaps fulfil a political purpose of casting the government in a more egalitarian light – the seven year rule is perceived to advantage only richer taxpayers.

Both factors point to the urgency of making gifts now if the taxpayer can afford to do so and has a reasonable expectation of surviving seven years. As ever, life assurance is an option to cover the risk of an untimely death (albeit perhaps a little more difficult to secure in the current climate).

What practical difficulties does Covid-19 throw up in the estate planning context?

The Royal Institution of Chartered Surveyors (RICS) has warned there may be difficulties in inspecting properties for the purposes of preparing a valuation: it may be prudent to commission valuations of buildings and land sooner rather than later to pre-empt any delays, since other professional advisors will need sight of the valuation before they can provide appropriate advice. Covid-19 also introduces uncertainty into property values, so RICS has suggested wording for a material uncertainty clause to include in valuations if necessary. This is "to ensure that any client relying upon that specific valuation report understands that it has been prepared under extraordinary circumstances". Importantly, inclusion of a material uncertainty clause does not suggest the valuation cannot be relied upon.

It is also proving difficult to take out life assurance policies as doctors are more often than not unable to perform medical assessments.

The period of lockdown could therefore be seen as a time to take preliminary advice and consider action to be taken when restrictions are lifted. The client can then implement succession planning ahead of any emergency post Covid-19 budget, for example, when time may be more of the essence than ever.

What is the advice for a taxpayer who must file an Inheritance Tax return with HMRC but cannot do so before the deadline due to Covid-19 disruption in obtaining valuations?

HMRC have always offered taxpayers the ability to insert provisional values in Inheritance Tax returns as long as they declare which figures are provisional. If the final value turns out to be higher than the estimate causing more tax to be due, interest at 2.6% would be due on the underpaid tax.

What are the implications for owners of national heritage property?

HMRC have confirmed that they expect owners who are obliged to open their properties to the public as part of undertakings given to HMRC (for example in the context of conditional exemption) to make up for missed days later in the year where possible. Owners will not, however, have to carry forward missed days for 2020 to next year.

A common sense approach is taken where it comes to objects. HMRC will not deem an owner, who has loaned objects to an institution closed during Covid-19, to have withdrawn public access to the object while that institution is closed. Owners will not be expected to accept appointments to view an object while social distancing measures are in place.