WHAT INHERITANCE TAX RELIEFS ARE

There are certain circumstances and certain types of property in respect of which relief is given against inheritance tax and it is either reduced or not charged at all. The principal reliefs are listed below.

Taper relief

In the case of gifts made between three and seven years before death, only a proportion of the tax is charged, the proportion depending upon how long the taxpayer survives the making of the gift. This reduction in the inheritance tax is known as taper relief.

• At the time of writing (2007), if the taxpayer survives the making of the gift by seven years or more, 100% relief is given and no inheritance tax is payable in respect of the gift.
• If the survival period is between six and seven years, tax is payable in respect of the gift at 20% of the death rate, i.e. at the rate of 8%.
• If the period is between five and six years, tax is payable in respect of the gift at 40% of the death rate, i.e. at the rate of 16%.
• If the period is between four and five years, tax is payable in respect of the gift at 60% of the death rate, i.e. at the rate of 24%.
• If the period is between three and four years, tax is payable in respect of the gift at 80% of the death rate i.e. at the rate of 32%.

Note it is the tax itself that is reduced and not the value transferred.

Business property relief

The nature of the relief

Business property relief operates to reduce, for inheritance tax purposes, the value transferred by a transfer of:

• ‘relevant business property’
• in a qualifying business
• which has been owned throughout the two years immediately preceding the transfer

by 100% or 50% and it operates whether the property is situated here or overseas.

What is relevant business property?

Business property includes not only land and buildings, but also the other assets of a qualifying business, provided that they are ‘relevant business’ assets and not ‘excepted assets’ and they have been owned throughout the relevant period. The relief operates by reducing the value transferred and the amount of the reduction depends upon the type of relevant business property concerned.

Business property entitled to 100% relief

Relevant business assets which are entitled to 100% relief consist of:

• a business or a share of a business, such as a share in a partnership
• shares in a company which are not quoted on a recognised stock exchange (although shares which are traded on the Alternative Investment Market [AIM] do benefit from 100% relief)
• securities which are not quoted on a recognised stock exchange and which are owned by the transferor and either by themselves, or when combined with other unquoted shares or securities he owns, give him control of the majority of the voting rights in the company
• assets of a trust which the person presently entitled to use them under the terms of the trust (the life tenant) uses in the business.

Business property entitled to 50% relief

Relevant business property entitled to 50% relief consists of:

• securities or shares in a company which are quoted on a recognised stock exchange and which are owned by the transferor and either by themselves or when combined with other quoted shares or securities he owns, give him control of the majority of the voting rights in the company
• land, buildings, plant and machinery owned by the transferor and used immediately before the transfer, mainly or wholly by a qualifying business in which the transferor is either a controlling shareholder or a partner.

Excepted assets

‘Excepted assets’ are assets that have not been used wholly or mainly for the purpose of the business throughout the preceding two years or are not required for an identified future use in the business, e.g. investments of the business or excessive cash balances. Parts of buildings or land which are used exclusively for the business, are treated separately and may be considered for business relief and not as excepted assets.

If the ‘relevant business property’ is a business itself or a share in a business it should be noted that it is the business or share in the business itself and not the business’s individual assets which must have been owned for two years.

Which businesses are qualifying businesses?

To qualify for the relief the business must be one that is carried on for profit and the relief does not apply to businesses wholly or mainly engaged in dealing in securities, shares, land or buildings or the making or holding of investments, although the business of a market maker or discount house in the United Kingdom qualifies for business relief. Neither does the relief apply to businesses or business property which are subject to a contract of sale at the relevant time, unless the sale is in return for shares in the acquiring company which will continue the business. Therefore the relief does not apply to a share in a partnership if it is a term of the partnership deed that the partnership share must be sold to the remaining partner or partners.

Calculation of the time condition in special circumstances

Death within seven years of the making of a lifetime transfer

If a transferor dies within seven years of making a transfer, inheritance tax may become payable, or if tax has already been paid at the rate applicable to lifetime dispositions, further tax may become payable. Business property relief applies if various additional conditions are fulfilled.

For business property relief to be available in these circumstances, the original asset must have been owned by the transferee throughout the period between the original transfer and the death of the transferor (or the death of the transferee if earlier) and must be relevant business property at the time of such death. The rate of relief is that in force at the date of the transferor’s death.

Replacement assets

Assets which replace other assets that would qualify for the relief but for the two-year ownership condition qualify for the relief if both periods of ownership occur in the five years immediately preceding the disposition and taken together amount to two years or more.

In cases where tax or additional tax becomes payable in respect of replacement assets on a lifetime transfer because of the death of the transferor within seven years of the lifetime transfer, the following additional conditions must be complied with if relief is to be available:

• the sale and purchase must be at arm’s length and take place in a period of not less than three years of each other
• the entire sale proceeds must have been used to purchase the replacement property.

Assets inherited from a spouse or civil partner

In the case of assets inherited from a spouse or registered civil partner, the period during which the spouse or civil partner owned the assets can be included to make up the period of two years.

Disposals on death

The two-year rule does not apply to otherwise qualifying relevant business property which was entitled to relief when it was acquired by the current transferor, his spouse or civil partner, if either the current disposal or the earlier disposal was or is made on death.

AGRICULTURAL PROPERTY RELIEF

The nature of the relief

In many ways agricultural property relief resembles business property relief. It operates to reduce for inheritance tax purposes the agricultural value transferred by a transfer of the asset by 100% or 50% and does not apply if the asset is under a binding contract for sale at the time of the disposition. The relief applies only to the agricultural value of the property transferred, i.e. it does not apply to the value which the property would have if it were used, or could ever be used, for any purpose other than agriculture. Consequently the value of an asset for the purpose of calculating agricultural property relief is sometimes less than its value as a business asset. If agricultural assets form part of a business, although double relief is not possible, it is sometimes possible to claim business relief on the excess of their business value over their value as agricultural assets.

The time conditions

Except for the situation set out in the next paragraph and when the transferor dies within seven years of the transfer discussed later on pages 49–50 the transferor must either have occupied the property for agricultural purposes for the two years immediately preceding the disposition or it must have been owned by the transferor throughout the period of seven years immediately preceding the disposition and occupied for agricultural purposes by the transferor or someone else throughout that period. If the property was inherited upon the death of a spouse or registered civil partner, the period of ownership and occupation by the spouse or civil partner can be included when computing the periods of occupation or ownership as the case may be, and occupation by a transferor-controlled company counts as occupation by the transferor.

If the property was entitled to agricultural relief when it was acquired by the transferor, by his civil partner or his spouse and was either acquired on a death or the present disposition occurs on a death, relief applies without the necessity for complying with the time conditions provided that the property is occupied for agricultural purposes by the person making the second disposition or was so occupied by the personal representatives of the person from whose estate it was acquired.

Replacement assets

Assets which replace other qualifying assets and which would qualify for the relief but for the condition relating to ownership and occupation for agricultural purposes by the transferor for two years, qualify for the relief if the period of ownership and occupation of both assets occur in the five years immediately preceding the disposition and taken together amount to two years or more.

Assets which replace other qualifying assets and which would qualify for the relief but for the condition relating to ownership by the transferor and occupation for agricultural purposes for seven years, qualify for the relief if the period of ownership and occupation of both assets occur in the ten years immediately preceding the disposition and taken together amount to seven years or more.

However, as with business property relief, in cases where tax or additional tax becomes payable in respect of replacement assets on a lifetime transfer because of the death of the transferor within seven years of the lifetime transfer, the following additional conditions must be complied with if agricultural property relief is to be available:

• the sale and purchase must take place in a period of not less than three years of each other
• the entire sale proceeds must have been used to purchase the replacement property
• the property must not be subject to a binding contract for sale
• the original asset must have been owned by the transferee throughout the period between the original transfer and the death of the transferor or the death of the transferee if earlier
• the original property must be agricultural property immediately before the death of the transferor or the earlier death of the transferee and occupied for agricultural purposes throughout the period between the transfer and the death.

The rate of relief is that in force at the date of the transferor’s death.

What kinds of agricultural property qualify for the relief?

Agricultural property relief only applies to certain agricultural property situated in the United Kingdom, the Isle of Man or the Channel Islands. It does not apply to property situated elsewhere.

The agricultural property concerned is defined as follows.

• Agricultural land.
• Woodlands and buildings occupied with agricultural land which are used for the intensive rearing of livestock or fish if the occupation is ancillary to the use of the agricultural land. To be ancillary to the use of the agricultural land the woodland or buildings as the case may be, must be used as a subordinate part of the farm: there must be a common purpose for the occupation of the agricultural land and the buildings or woodland to which both contribute and the use of the buildings or woodland must be subsidiary to the overall agricultural activity carried on on the land.
• Farmhouses and other farm buildings which are of a size and character appropriate to the requirements of the farm concerned and farm cottages occupied by agricultural employees of the farm.

If the size of the ‘farmhouse’ is disproportionate to the size of the land being farmed with it and more like a country house, it will not be considered to be a farmhouse and not be entitled to agricultural property relief. The house must be ancillary to the farmland. The question to be decided is whether the holding is a farm or a house with land. Is it merely a place where the farmer of that farm lives or, in the words of one judge, ‘a considerable residence’?

Similarly if the owner of the ‘farmhouse’ lives in it but lets the land to another who farms it, the ‘farmhouse’ will not be entitled to agricultural property relief because it will not be a farmhouse in the true sense of the word in that it is not occupied for the agricultural purpose of farming the land. The extent to which the person who occupies the ‘farmhouse’ must be involved in the actual day-to-day working of the land to retain the ‘farmhouse’s’ entitlement to agricultural relief is an interesting but unresolved question. Is it sufficient that the occupier retains general control of the strategy and running of the farm and is entitled to its fluctuating profits while contracting out the day-to-day work on the farm to a manager, or must the occupier actually carry out the farming processes in person? Perhaps the best way of looking at the question is to ask how great a convenience or necessity it is for the occupier of the house to live there if he is to carry out the functions he carries out in connection with the farming of the land?

• growing crops transferred with the relevant land
• stud farms for horses and associated pasture
• land which is part of a habitat scheme
• controlling shareholdings which meet the time test in farming companies that also meet the two or seven year test in relation to the qualifying assets of the companies, but only to the extent that the agricultural value of the companies’ qualifying assets is represented in the shareholding.

To calculate the proportion of the value of the shares in respect of which agricultural relief is available, divide the value of the company’s eligible assets by the value of its total assets and multiply the resulting figure by the value of the shares. Agricultural property relief is not given in respect of shareholdings in such companies other than controlling shareholdings and is not given in respect of any value other than the agricultural value. Nor is it given in respect of assets that are not eligible assets.

It should be noted that agricultural relief does not apply to agricultural machinery or stock.

The rate of the relief

The agricultural value of the asset transferred is reduced by 100% agricultural property relief if:

• the transferor had owner occupation or the right to obtain vacant possession within 24 months, or
• the interest is an agricultural tenancy which commenced on or after 1 September 1995, or
• the case is the unusual one of land let on a tenancy commencing before 10 April 1981 in respect of which certain conditions apply and in respect of which transitional relief is given at 100%.

In all other cases the relief is given at 50%.

Mortgaged property

If a mortgage is secured upon agricultural and non-agricultural property, it is necessary to apportion the amount of the mortgage between the agricultural value of the agricultural property and the full commercial value of the non-agricultural property in proportion to the respective values and then deduct the respective apportioned amounts of the mortgage from the respective gross values to ascertain the net value of each part. Agricultural relief at the appropriate rate is then applied to the net value agricultural value of the agricultural part and the resultant figure is then added to the net value of the non-agricultural property to ascertain the total value upon which inheritance tax is to be charged.

Agricultural Property Relief when the transferor dies within seven years of the transfer

If a transferor dies within seven years of making a transfer, inheritance tax may become payable, or if tax has already been paid at the rate applicable to lifetime dispositions, further tax may become payable. Agricultural property relief applies if various additional conditions are fulfilled.

For agricultural property relief to be available in these circumstances:

• the property must not be subject to a binding contract for sale
• the asset must have been owned by the transferee throughout the period between the transfer and the death of the transferor or the death of the transferee if earlier
• the property must be agricultural property immediately before the death of the transferor or the earlier death of the transferee and occupied for agricultural purposes throughout the period between the transfer and the death.

The rate of relief is that in force at the date of the transferor’s death.

In cases where tax or additional tax becomes payable in respect of replacement assets on a lifetime transfer because of the death of the transferor within seven years of the lifetime transfer, the following additional conditions must be complied with if relief is to be available:

• the sale and purchase must be at arm’s length and take place in a period of not less than three years of each other
• the entire sale proceeds must have been used to purchase the replacement property.

Agricultural and/or Business Property Relief?

If assets qualify for both agricultural relief and business relief, only one relief is given and that relief is agricultural property relief. If farm assets do not qualify for agricultural property relief, for example a farmhouse on a French farm or livestock on any farm, they might still qualify for business property relief if the appropriate conditions are met.

Woodland relief

In some circumstances an individual can obtain temporary relief from inheritance tax on his death on the value of timber growing on land (other than agricultural land) within the United Kingdom, but not on the value of the land upon which the timber is growing. Throughout the five years prior to his death the deceased must have owned or had an interest in possession (such as a life interest) in the land upon which the timber is growing or he must have been given and not purchased it. This condition is to prevent deathbed purchases of woodland being used as a tax-avoidance measure. The relief is not available for lifetime disposals and must be claimed by an election made within two years of the death unless the Revenue is prepared to exercise its discretion and accept an election made at a later date.

Woodland relief does not apply to shares in companies which own woodlands and is seldom used because the conditions for business relief or agricultural relief can usually be complied with.

On a later disposal of the timber (other than to a spouse or registered civil partner) inheritance tax is payable on its net value at the time of disposal but at the rate applicable on the deceased’s death, unless the rate has been reduced, when the appropriate rate is that applicable at the date of the disposal. The value of the timber is likely to be higher then than at the time of the deceased’s death. In calculating the net value, the expenses of replanting the woodland within three years and the expenses incurred in disposal can be deducted if they are not claimable for income tax.

Quick Succession Relief

Quick succession relief is given when someone dies and his estate has been increased by a taxable disposition in his favour within the previous five years. The idea is to reduce the tax payable on the second transfer of assets within the five years. It is not essential for the property given by the first disposition to have been retained by the person concerned until the time of the second disposition.

The relief operates by reducing the tax payable on the second occasion by a sum equal to a percentage of the tax paid on the first occasion in respect of the increase in value of the second estate by the asset concerned. The increase is calculated on the basis of the net increase after deduction of tax and allowing for reliefs such as business relief but without any deduction for the expenses of administering the estate. It is a tax credit and it is the tax payable that is reduced, not the value of the asset. The percentage depends upon how long has elapsed between the two dispositions:

• if less than one year has elapsed the percentage is 100%
• if between one and two years have elapsed the percentage is 80%
• if between two and three years have elapsed the percentage is 60%
• if between three and four years have elapsed the percentage is 40% and
• if between four and five years have elapsed the percentage is 20%.

Relief for Heritage assets

Limited conditional relief is given in respect of land, buildings and objects which appear to the Treasury to be of outstanding importance from the point of view of the national heritage. The relief is dependent upon specified obligations designed to preserve the asset and afford public access to it in this country being undertaken by the donor.

Death and military service

If someone dies, or his death is hastened, as a result of a preexisting disease which is aggravated during active military service or as a result of a wound incurred, a disease contracted or an accident which occurred on active military service, no inheritance tax is payable. By concession the relief is also allowed for the estates of members of the Royal Ulster Constabulary who die as the result of injuries caused by terrorist activity in Northern Ireland.

Relief for land and other assets sold within a short time of death

It is sometimes possible to adjust for inheritance tax purposes the value attributed to any stock exchange securities (other than those quoted on the AIM market), shares in common investment funds, unit trusts, and land or buildings which are sold in the course of administration of the estate at a loss compared with their value as declared in the probate papers, to reflect the sale price rather than the value at the date of death.

To obtain agreement by the Revenue to a revaluation in the case of stock exchange securities, shares in common investment funds and unit trusts, the personal representatives must have sold them within 12 months of the date of the death. To recalculate the amount of tax properly payable, the loss is deducted from the declared value of the estate and is calculated by deducting the gross proceeds of sale from the value declared for probate purposes. No allowance is made for the expenses of sale and all the investments of this description in the estate must be taken into account, not merely those sold at a loss. If the personal representatives reinvest the proceeds of sale by buying further unit trusts, common investment funds or quoted investments within two months of the last sale during the 12-month period, the amount of repayable tax will be restricted.

Similar principles apply in the case of land and buildings, the differences being that the period for the sale is four years instead of 12 months; the period for reinvestment is four months after the last qualifying sale in the period of three years from death instead of two months during the period of 12 months from death; and sales at a profit in the fourth year after death or which result in a profit or loss of less than 5% or £1,000 are ignored.

Deeds of Family Arrangement and distributions made from discretionary trusts made within two years of death

It is possible for the beneficiaries of a will, or those who inherit a share of an estate upon an intestacy, to vary the terms of the will or the inheritance on intestacy by agreement after the death. This is done by a voluntary agreement contained in a document known as a Deed of Family Arrangement or by a deed of disclaimer. Similarly, the personal representatives of a beneficiary who survives his benefactor and then dies can vary the inheritance if they have the consent of those who benefit under his will or upon his intestacy. These matters are dealt with in some detail on pages 111 onwards. If special provision were not made to the contrary, any such variation would constitute a taxable disposition and transfer of value. However, the Inheritance Tax Act comes to the rescue and provides that if the variation is made within two years of the death and certain other specified conditions are complied with, the transfer shall not be considered to be a transfer of value and the variation is to be viewed from an inheritance tax point of view as if it had been made by the deceased. Distributions made within two years of a testator’s death from discretionary trusts created by his will are also considered to have been made by the deceased’s will.

Double taxation relief

If an asset which is situated overseas is subject to a tax similar to inheritance tax in the foreign country and also to inheritance tax in the United Kingdom, relief will be given as a credit against the United Kingdom tax payable in respect of the overseas asset. The relief given is the lower of the foreign tax which has been paid in respect of the asset and the United Kingdom tax which would otherwise be payable in respect of the asset, the United Kingdom tax being calculated at the average percentage rate payable in respect of the estate.