As Benjamin Franklin said, “in this world nothing is certain except death and taxes.” When meeting clients with respect to their estate planning there are often lengthy discussions about succession planning, who should administer the estate and what will happen to Zorro the cat.
Calculating prospective liabilities to tax, particularly inheritance tax, is also a vital part of any advice given to clients. However, as highlighted in the recent case of Raboni v HMRC, consideration should be given not just to calculating the quantum of a tax liability but how this is actually going to be paid.
For some clients the answer is obvious as they may have significant liquid reserves to meet a tax liability. However, given that, according to the Office of National Statistics, the average household wealth is now £302,500, which is only £22,500 below the inheritance tax nil-rate band, making provision for inheritance tax is no longer solely the purview of the wealthy.
Indeed, the average inheritance tax bill has risen 27 percent in the last three years alone, which is partially driven by the UK government failing to increase the nil-rate band since 2009. By comparison, in 2009 a chocolate bar cost approximately 40p, it now costs nearer 75p.
Life assurance can be helpful when considering how to meet a future inheritance tax liability. However, not all individuals are eligible for life assurance or, while eligible, do not have enough disposable income to meet the premiums. As a brief aside, where families are intending to use the proceeds of a life assurance policy to pay inheritance tax liability, care should be taken to ensure that the trust arrangements that the policy is held in allow for the proceeds to be used in this way. Many insurance providers have their own default trusts, but clients will often want to use their own trusts.
For some clients, therefore, the family home is the only option to meet expected tax costs, and this was the case in Raboni. In Raboni, the deceased in her will gave her friend, Mr Boggia, the right to occupy the deceased’s house, rent-free for the rest of his life. The house comprised the vast bulk of Mrs Raboni’s estate, around £300,000, with the remainder of the estate being a small amount of cash. The inheritance tax liability on Mrs Raboni’s death exceeded the cash available to the estate and the only way to pay the liability would have been for the executors to sell the house.
Given the precise wording of Mrs Raboni’s will, Mr Boggia did not have a right to occupy any other property that may have been purchased as a replacement property. Ultimately, Mrs Raboni’s heirs, which comprised her nephews and nieces, paid the inheritance tax from their own funds in order to allow Mr Boggia to live in the property.
While the Raboni case was primarily interested in determining what constitutes an interest-in-possession trust for inheritance tax purposes, the key principle is that but for the generosity of Mrs Raboni’s heirs, Mr Boggia would not have been able to stay in the property and Mrs Raboni’s wishes for her estate would not have been met. The property could not be mortgaged as Mr Boggia did not have the means to pay any interest, which may become a more frequent problem in light of the recent rise to interest rates.
Calculating an inheritance tax liability can often be complex, particularly where assets may qualify for full or partial relief from the standard inheritance tax liability. There are also other considerations, such as spouse relief, donations to charity and the quantum of lifetime giving.
As such, it is important to consider what a person’s likely maximum exposure to UK inheritance tax might be and use this for the basis of discussions on how such a liability may be met. It’s also advisable to differentiate between assets where the tax has to be paid immediately and those assets where tax can be paid via the instalment option.
Einstein may have described tax as, “the hardest thing in the world to understand.” However, as with so many aspects of the legal world, it is the duty of advisers not only to understand the problem but to be able to propose solutions.
Each person should keep their estate planning under constant review, and we would recommend speaking with your advisers if it has been more than a couple of years since your last estate planning meeting or if there have been material changes in your personal circumstances such as marriage, children or your assets.