The media spotlight has focused on the estate of the late Professor Stephen Hawking recently due to a significant tax saving arrangement. An agreement was reached with the Cambridge University Library and the Science Museum Group for Hawking’s archives and the contents of his office to be preserved for posterity, with the objects given in lieu of inheritance tax under the "Acceptance in Lieu” scheme, run by the Arts Council of England.
In this article we will explore how this scheme works for inheritance tax planning, and also highlight its lifetime equivalent the "Cultural Gift" scheme. Finally, we will touch briefly on the Conditional Exemption Tax Incentive scheme. Together, these schemes aim to incentivise the retention of nationally important property in the UK.
The Acceptance in Lieu Scheme
The Acceptance in Lieu (AIL) scheme allows an estate to donate eligible property to an institution and have the value of that property offset against the estate’s inheritance tax liability. Eligibility is determined as follows:
- Is the property of "pre-eminent importance" owing to national, scientific, historic, or artistic significance (either alone or as part of a collection)?
- Alternatively, is the property associated with an important historic public building or building belonging to certain charities (e.g. the National Trust)?
- For land or buildings, is it historically or architecturally important to national heritage?
The term "pre-eminent" means that the property is either an exceptional example of its type or perhaps an object without equivalent. An explanation of its pre-eminence will need to be given to the Arts Council within two years of the date of death, but it is for the Arts Council to decide whether they accept that definition.
Hawking’s papers are a clear example of a one-of-a-kind pre-eminent collection of scientific and historic importance (containing both his work papers and letters from Bill and Hilary Clinton and others). In contrast, an unremarkable piece of art by an otherwise remarkable artist, or if better examples are already preserved by museums or galleries, may not be eligible for the scheme.
The amount of tax that can be offset will depend on the value of the property donated, though it is not a simple one-for-one exchange. Let us consider Hawking’s script from the episode of The Simpsons in which he featured and assume this has a value of £10,000. If sold after death, the estate would potentially pay £4,000 in inheritance tax and receive a net benefit £6,000. If it is donated using the AIL scheme, the value of tax offset will be £6,000 plus 25 percent of the inheritance tax that would have been payable. The net benefit to the estate is £1,000 greater using the scheme.
But what if £10,000 is an underestimate? If someone would pay £20,000 at auction, then the estate would be better off taking this route and paying tax on the proceeds. Obtaining a good (and accurate) valuation from the Arts Council is therefore crucial, and a great deal of work goes in to getting this right.
The Cultural Gift Scheme (CGS)
The lifetime equivalent of the AIL scheme is the CGS. This scheme works in a similar way to the AIL, in that there is a requirement for the Arts Council to agree the pre-eminent importance of the specific items which would be acquired by relevant UK institutions. However, instead of a refund of inheritance tax, the donated property can help to reduce the taxpayers income tax or capital gains tax liabilities (or corporation tax in the case of a corporate donation).
For individuals, up to 30 percent of the value of the donation can be offset against these taxes and this offset can be spread over the preceding 5 years. Although the CGS is less generous than the AIL scheme, it covers a greater variety of taxes and offers a greater degree of flexibility for taxpayers.
The Conditional Exemption Tax Incentive Scheme
The conditional exemption tax incentive scheme essentially allows assets or land of national importance (so-called "heritage property") to remain outside the scope of inheritance tax and capital gains tax so long as their owners commit to preserve the assets for the public good. This will include an obligation to allow public access to the property for a certain number of days per year.
If Hawking’s heirs had wished, they could have applied to have his assets designated as heritage property and then loaned them to the relevant institutions rather than donated them. If the designation was accepted, the assets would remain the property of Hawking’s heirs but would not have been subject to an inheritance tax charge. In sheer financial terms, this outcome is not as beneficial as the AIL scheme, but some estates may value retaining assets over maximising tax efficiency.
The various government backed incentive schemes are advantageous to the taxpayer from a financial perspective, but also help to ensure that their items of pre-eminent importance are preserved for future generations. The schemes are different in nature and thus it is important for the adviser to engage with their client as soon as possible, preferably during their lifetime, to determine the most appropriate incentive scheme to adopt.