It can be fairly easy, as part of an estate planning exercise, to persuade a client to give away something from which there is no current material benefit, for example, by passing on a future entitlement such as an absolute entitlement under a will trust that only materialises on the death of the current life tenant.
Such a reversionary interest is "excluded property" for inheritance tax (IHT) purposes. This will not be a transfer of value for IHT, so neither a potentially exempt transfer (if given to a recipient outright), nor an immediately chargeable transfer (if to a trust). It can be an attractive way of passing on prospective value to a younger generation. Prior to the IHT changes introduced by Finance Act 2006 (FA 2006), it was common for a parent to use this strategy by setting up a pilot trust on (then) favourable accumulation and maintenance (A&M) terms for minor children to which the reversionary interest could be assigned.
Given that many A&M settlements are now within the relevant property regime an analysis in relation to when the ten year anniversaries fall and IHT charges are due is needed - as illustrated below, in Harry's case.
Harry's A & M settlement for minor children
Harry's mother, Susan, died on 25 July 1993, leaving under her will a life interest for her husband, Tony, with remainder absolutely to Harry, her only child, then 30 years old.
Harry created an A&M settlement (Harry's Settlement) for his two minor children with a nominal sum of £100 on 10 August 1997. The transfer of £100 to Harry's Settlement was (under the A&M rules then prevailing) a potentially exempt transfer by Harry and in any case within his annual exemption from IHT (of £3,000).
On the next day Harry assigned his absolute reversionary interest in Susan's will trust to Harry's Settlement. As the reversionary interest was excluded property there were no IHT implications on its assignment.
On 22 March 2006, the favourable A&M status of the Settlement ceased to apply (albeit with a grace period for any assets already in the Settlement, in this case being merely the £100 nominal sum).
Tony died on 25 March 2007, as a result of which his qualifying interest in possession came to an end. This was a chargeable transfer and IHT was paid on the value of the trust fund, after taking into account his available nil rate band. For IHT purposes, the 'reversionary assets' that passed into the Settlement at that point entered the relevant property regime.
Section 81 IHTA 1984
Section 81 Inheritance Tax Act 1984 (IHTA 1984) provides that when property ceases to be comprised in one settlement by being comprised in a separate settlement, it is to be treated as remaining comprised within the first settlement. The reversionary assets are therefore still treated as being comprised in Susan's will trust. This has two main consequences:
- The 10 year anniversaries for the reversionary assets will be by reference to the date of Susan's death on 25 July 1993, so that the first chargeable ten year anniversary fell on 25 July 2013.
- Susan's cumulative total is relevant to the charge on the reversionary assets and her cumulative total, rather than Harry's.
Any assets settled by Harry personally (whether the nominal sum settled in 1997 or assets settled by him subsequently) have their next ten year charge on 10 August 2017, at which point Harry's cumulative total on 10 August 1997 is relevant to the calculation.
One might have assumed that because Harry settled an absolute reversionary interest, the ten year charge runs from the date of creation of Harry's Settlement on 10 August 1997 and that the calculation of any IHT charges should be by reference to Harry's cumulative total. The crucial factor, however, is that no one at any time became absolutely entitled to the assets in Susan's will trust, as they passed on Tony's death direct into Harry's Settlement.
Many such A&M settlements were set up with an assignment of the absolute reversionary interests of a parent in this way. A transfer of a reversionary interest to a relevant property regime trust (A&M settlements no longer being possible) remains a useful tax planning strategy, avoiding the potential charge that would otherwise arise on the death of the absolute reversioner (if the interest has by then fallen into possession) but it is easy to overlook which is the correct anniversary relevant to the assets that have fallen in.