The WAY Group Newsletter for Financial Advisers | April 2010

The case of the preliminary budget

The pre-election budget was as politically inspired as expected but did give some clues as to what a future Labour chancellor might focus on given a further opportunity.

Mark Benson, Technical Manager for WAY, looks at the effect on WAY's IHT plans and postulates on, amongst others, the future of Business Property Relief, pre-registration of IHT schemes and a projected property price boom...

With plenty of allowances frozen in classic Stealth Tax style, there was little in this Budget to warm anybody up. Of course, everybody knows that the only warm up was for the forthcoming election and that the "real Budget" is likely to take place in the summer. Whilst there was more politics than fiscal action in the speech, the measures announced are projected in the Budget Report (Red Book) to cost the Treasury £1.4bn in the new tax year 2010/11. When considered in relation to total Government spending projected at £704bn for the year, of which £163bn will need to be financed by new debt, the Budget provisions amount to the equivalent of finding a few coins down the back of the sofa.

Investor Headlines:

1. Inheritance Tax (IHT) Nil Rate Band frozen for a further 4 years to 2014/15
2. Income Tax allowances for 2010/11 frozen at 2009/10 levels
3. ISA contribution limit confirmed at £10,200 for all
4. Capital Gains Tax (CGT) Annual Exempt Amount for individuals frozen at £10,100
5. Flat rate of CGT unchanged at 18%
6. CGT Entrepreneur Relief doubled to £2m
7. Consultation on making AIM shares available to ISA investors

...oh yes, and the return of the property boom in 2012!

IHT & WAY Inheritor Plans

IHT is shaping up to be one of the areas where there is clear blue / red water between the two main parties at the General Election. The Chancellor announced that the IHT nil rate band, which he had already frozen for the next tax year at £325,000, would be frozen for a further 4 years until 2014/15. In contrast, the Conservatives have recently reiterated their promise to increase the nil rate band to £1m in the first term of a new Conservative Government. The Red Book estimates that IHT will yield the Exchequer £2.4bn in 2009/10 and the freeze in the nil rate band is estimated to contribute an additional £35m in 2010/11 and a further £110m in the 2012/13 tax year.

The freezing of the nil rate band will therefore cause IHT to bite harder upon the estates of many individuals who would not consider themselves to be especially wealthy. Whilst the Conservative proposals would take many such estates out of the IHT net, we continue to be of the opinion that the state of the nation's finances are such that there is every chance they would seek to escape their promise once in Government or at best raise the nil rate band as a sweetener for the next election due in 2015. We would therefore suggest that the "cross your fingers and hope" approach would not be a good financial plan for the client who has a potential IHT liability. A much better solution is of course to make plans now and (for example) set up a WAY Flexible Inheritor Plan, which can adapt to whichever flavour of Government we are served in the future.

Whilst the Chancellor in his speech rattled his sabre at putative tax evaders, there were no further changes announced to the structure of trust or IHT law. It is worth repeating that the two schemes that were blocked by the new legislation introduced in the Pre-Budget Report are unrelated to the WAY Inheritor Plans, which have been given a clean bill of health following further correspondence with HMRC.

It was announced that "the Government is exploring how inheritance tax charges applying to trusts can be brought within the disclosure regime". This was an area of speculation in the run up to the Budget. The disclosure regime requires the originators of tax planning arrangements to report them to HMRC and thus offer the authorities an early opportunity to close perceived loopholes in the law. It is not yet clear whether this exercise would look to bring reversionary interest plans into the Disclosure Regime. Whilst this would, of course, add to the bureaucratic burdens we operate under, it is not a development that would concern us in any way.

The WAY Inheritor Plans, along with other mass marketed insurance based IHT plans, are based upon well established principles, which are already well known to HMRC and have not proved to be controversial. Indeed, it is worth restating that since our plans are designed to make efficient use of the IHT rules - in particular the 7 year inter-vivos period - they should not be classified with "tax avoidance" schemes which seek to exploit loopholes in the legislation. In any case, details of all of WAY's plans have been submitted to the Capital Taxes Office on numerous occasions, as part of the series of correspondence we have undertaken to clarify changes in the law that have been introduced in recent years. They will not get a shock, therefore, if we are asked to send the details again under the disclosure regime.

Trust Taxation & WAY Inheritor Plans

There was a change announced to the taxation rules for settlor-interested trusts and Income Tax. Where a trust is deemed to be settlor-interested, such as the WAY Inheritor Plans courtesy of the reversionary interest, the settlor is the ultimate tax point for Income Tax and must pay extra tax if their marginal rate is higher than that suffered by the trustees. They are also able to reclaim the difference if the trustees have paid tax at a higher rate than the settlor. The new rule now forces the settlor to pay any reclaimed tax over to the trustees. This transfer will be ignored for IHT purposes.

This rule change will have a very minor affect on WAY Inheritor Plans. Since these plans utilise an interest in possession trust, the trustees account for tax at the basic rate. Higher rate tax paying settlors will therefore continue to have a liability to the difference between their marginal rate and the basic rate paid by the trustees. A few settlors may be non-tax payers and thus eligible for a refund, in which case they will have to pay that refund across to the trustees. However, in practice most WAY Inheritor Plans will not generate any income and those that do (e.g. on the Ascentric wrap platform) will mostly have received dividend income. The tax credit on dividends satisfies the basic rate tax liability of the trustees, but is of course not reclaimable by lower rate or non-tax payers. Thus in practice the only scope for reclaiming tax will be on interest income, which is likely to be a very small amount.

Capital Gains Tax

Despite some speculation that the rate of CGT would be raised, the Chancellor restricted himself to introducing a little fiscal drag by freezing the individual Annual Exempt Amount at £10,100. The flat rate of CGT remains at 18%. We cannot, of course know if any change was ever on the agenda at number 11, but given that the flat rate regime was a very recent and welcome introduction by this Government, it would seem rather strange if they began to take us back towards the older more complicated CGT rules at this time.

In a business friendly gesture, the Chancellor doubled the lifetime limit for Entrepreneur Relief to £2m. This relief reduces the CGT charge to 10% on business assets, including unquoted shareholdings.

Individual Savings Accounts

The individual ISA limit was confirmed at £10,200 - again frozen at the level previewed by the over 50s in the current tax year. It is most welcome, however, to see a worthwhile increase in the contribution limit (from £7,200) at last.

A potentially more interesting development was buried in the Red Book where a consultation was announced on the possibility of Alternative Investment Market (AIM) shares becoming eligible for ISA investment. AIM shares have thus far mostly been famous for the fact that they qualify for IHT Business Property Relief (BPR) and the spectacular amounts of money that you could lose over most timeframes. It might be a bit churlish to suggest that AIM investments might not benefit from sheltering from CGT!

To give a more constructive assessment, the availability of AIM investments within an ISA would seem to be a more appropriate tax break than BPR for that type of investment. AIM investments are inherently high risk and have thus always seemed to sit uncomfortably in IHT mitigation products aimed at older investors. Furthermore, the IHT saving is always at the mercy of future changes in the law since the IHT transfer lies in the future and not the past. This is a worry given that AIM investments seem, in their nature, to be rather remote from the type of business asset that BPR is intended to relieve.

For that reason, there has been much speculation that BPR on AIM investments would be removed at some point. Could this change be introduced in conjunction with ISA eligibility? When we consider that currently an ISA provides protection from lifetime taxes - Income Tax and CGT - but not from IHT, there would seem to be a natural harmony if AIM shares could be held within an ISA but without the benefit of BPR to shelter them from IHT. Furthermore the younger client, for whom the ISA is preferred, would be more likely to subscribe to the higher attitude to risk that is appropriate for AIM investments.

And finally...

What about that new property boom?

A close inspection of the Red Book has caused raised eyebrows here at WAY, and amongst some other commentators that we have read, because many of the future projections are incredibly optimistic about the level of economic growth in the years to come.  For instance, looking at the figures for 2012/13, the increase in Stamp Duty for £1m properties is expected to yield £230m, a jump from £70m the year before.  In fact that makes the Stamp Duty increase the most profitable (for the Exchequer) single provision from this Budget in the year 2012/13.  The fourth most profitable provision is the freezing of the IHT nil rate band, worth £110m.  Given that most ordinary people suffer IHT primarily as a result of the value of their home, and given the tripling of the value of the benefit of these two provisions in 2012/13 versus 2011/12, we can only assume that the Government expects an Olympic boom to occur in the property market.

Incidentally, the number 2 & 3 provisions in 2012/13 are Tobacco Duty and the Lichtenstein Disclosure Facility.  In fact the agreement by Lichtenstein to share information with HMRC is projected to be worth £500m over the next 3 tax years!  I wonder how much they will raise in Belize?

Yours sincerely,

Mark Benson TEP CertPFS
Technical Manager, WAY Investment Services Limited
9th April 2010.

References:
1. Data & Statistics - 'Budget 2010, UK Stationery Office, HC 451, 24th March 2010'
2. FTSE Aim Indices - Financial Express

– Ends –

How to contact us

We hope you found this article informative and that some of the issues raised will prove useful for developing business with your clients? If you wish to discuss any matters arising from this article or, indeed, want to talk to us about any of WAY's products, then you are most welcome to call either Tony Lyons, IFA Support Manager, or Mark Benson TEP, Technical Manager , on head office telephone number: 01202 890895. Or, if you prefer, you can use the website: Contact Form to get in touch. We look forward to hearing from you.

The WAY Group Newsletter for Financial Advisers | April 2010

Please Note:
This document has been prepared for Financial Intermediary Clients and Professional Associates of WAY Investment Services Ltd and is not intended for and must not be distributed to Private Investors. This document does not constitute investment advice or a recommendation to purchase or sell any security. The investments and services referred to in this document may not be suitable for every investor and if in doubt independent financial advice should be sought. No representation or warranty is given (express or implied) as to the accuracy, completeness or correctness of the information nor the opinions, interpretations and conclusions contained in this document. No liability is accepted whatsoever for any loss howsoever arising from any information in this document subject to the rules of the Financial Services Authority or the Financial Services and Markets Act 2000. Past performance is not necessarily a guide to future returns and changes in rates of exchange between currencies may cause the value of investments to rise or fall. Share prices, values and income can go down as well as up and investors may get back less than their initial investment. WAY Investment Services Ltd is an Appointed Representative of WAY Fund Managers Ltd which is authorised and regulated by the Financial Services Authority.