Estate Planning Guide

37 36 ESTATE PLANNING OPTIONS ESTATE PLANNING OPTIONS Insurance policy based arrangements So, even though the overall value of the bond had fallen by £24,000 (–24%), tax on the “excess” withdrawals of £2,000 would have to be paid. This is because the excess over 5%, the “chargeable event gain”, is always used for the calculation, irrespective of any profit or loss on the bond. £100,000 bond investment In year 2 an unexpected withdrawal of £12,000 is required. At that time, the investor’s bond value was only £76,000. The £12,000 is paid to the investor as a partial withdrawal. On the third anniversary, the bond issuer is required to issue a “Chargeable Event Certificate” (CEC) to the policyholder showing that the £12,000 was withdrawn. But, 2 years of 5% were available (2X5% of £100,000 = £10,000) so the “chargeable event gain” (the gain) shown on the CEC would be £12,000 – £10,000 = £2,000, taxable at the investor’s applicable rate, top slicing relief is also available. are potentially subject to IT in the hands of UK resident taxpayers. They will not enable clients or trustees to utilise annual CGT allowances but these structures may be used to defer, and therefore potentially reduce, IT. The crucial point therefore is that an insurance or capital redemption based arrangement will result in the underlying investments being taxed within an IT rather than a CGT regime. Of course, this will depend on the client’s individual tax position, but the suitability and simplicity of a non-income producing asset may be preferable. Collective fund arrangements are summarised in section 2.5 of this Guide. The 5% tax deferred withdrawal rules which apply to insurance and capital redemption bond policies allow investors to withdraw capital from the policy at a rate of up to 5% per annum of the amount originally invested, without any immediate liability to IT. Withdrawals over this limit create a ’chargeable gain’ at the end of the policy year in which the excess withdrawal is made. Any tax liability on surrender before death or maturity is based on the gain or “profit” (if any) that the bond has made. This profit is defined as: the amount clients receive when they cash in their Bond plus all previous withdrawals; less the total amount you have paid in plus any excesses over the accumulated 5% allowances. Taking the example on the left hand side, this works out as follows: • The investor cashes in the bond after seven years • At surrender, the remaining bond investment has recovered and is valued at £91,000 (+ 3.4% on £88,000) • The surrender value (£91,000) plus the previous withdrawal of (£12,000) = £103,000 • The total amount paid into the bond by the investor is £100,000. After the investor’s withdrawal of £12,000, £88,000 of the original capital remains • The gain - £103,000 + £12,000 - £100,000 = £15,000 - the prior CEC of £2,000 = £13,000 taxable at the investor’s applicable rate, and top slicing relief can help to reduce the tax payable. Generally, the assignment of a bond (i.e. by the settlor to the trustees or by the trustees to a beneficiary) will not constitute a chargeable event unless the assignment is for money or money’s worth. The case of Lobler highlighted the potential for significant issues if these rules are not properly understood or applied: Mr Lobler purchased a large life insurance bond valued at $1.4 million, but, unaware of the 5% tax deferred withdrawal rules and the tax applicable to the excess, Mr Lobler withdrew almost all of the cash in just two events. This gave him a $560,000 tax liability. This case also demonstrates why most insurance and capital redemption bonds are structured as a series of identical policies or “segments” which can enable greater flexibility and tax efficiency because segments can be surrendered individually as opposed to taking withdrawals. That said, the 2017 Finance Act introduced legislation to allow policyholders who had inadvertently triggered a ’disproportionate’ gain to apply to HMRC to have their gain recalculated on a just and reasonable basis. However, the meaning of ‘disproportionate’ is not clear and HMRC expects that it will apply to only a handful of individual policy holders per year. In general, if a chargeable event happens whilst the bond is owned by the trust, the IT charge will be assessed upon the settlor, if alive in the year the event occurs and UK resident. The settlor has a statutory right to recover from the trustees any IT paid as a result of the chargeable gain. If the settlor is not living, or is resident outside the UK, the chargeable gain will be assessed on the trust. In comparison to insurance and capital redemption bonds, non-surrenderable endowment policies can be potentially advantageous from an IT perspective on the death of the life assured under the policy. Excluded Property Trust (EPT) This is a trust (usually discretionary) created by a settlor who is/was non-UK domiciled when the trust was created. The assets in the trust must be non-UK situs (i.e. not subject to UK legal jurisdiction), or use authorised investment funds. EPTs can be beneficial to UK-resident individuals who are non-UK domiciled. If settled before the date the individual becomes deemed UK domiciled, assets within an EPT will never form part of settlor’s UK estate, unless those non-situs assets include a non-UK company or partnership that holds UK residential property, or the assets become UK-situs. Before 6 April 2017, non- doms were within the charge to IHT only in respect of UK assets and non-doms often sheltered UK assets such as property in an offshore company. Since 6 April 2017, HMRC has been allowed to look through non-situs structures such as companies and EPTs for IHT purposes, where UK assets are held within those structures. The 2017 changes also mean that an EPT will not work to remove assets from a UK estate where an individual was UK-domiciled, and left to obtain domicile of choice elsewhere before returning to the UK.