Private Lives – Giving to trusts and the loss to donor principle
3 October 2016
The value of a gift for Inheritance Tax (IHT) purposes is calculated by comparing the value of the taxpayer’s assets before and after the gift is made. This is of particular importance when dealing with gifts of shares in properties to recipients other than spouses or civil partners because a share in a property is not necessarily worth the equivalent percentage of the total value of the property.
It is a long established valuation principle that the value of a share should be discounted (usually by 10%) to reflect the disadvantages of joint (as opposed to sole) ownership except where the only property owners are spouses or civil partners.
When a taxpayer wants to make a gift during their lifetime of a share in a property to a trust then, if the value of the gift is greater than £325,000, an immediate charge to IHT at 20% of the value above £325,000 will arise. In those circumstances, assuming that the taxpayer does not want to exceed the £325,000 limit then, they need to take account of the Loss to Donor Principle. If they fail to do so they risk a 20% tax charge on part of the gift.
Assume a property in sole ownership is worth £2,500,000 and that the value to be given by the taxpayer is to be no more than £325,000. If they simply give away a 13% share (£325,000/2,500,000) of the property to the trust then a tax charge will arise on part as the donor’s estate will be deemed by HMRC to have ‘lost’ more than £325,000. This is because the value of the remaining share in the donor’s hands is now discounted (due to the joint ownership with the Trustees) to £1,957,500 (87% of £2,500,000 less 10%). The correct calculation for a gift of a share is as follows:
|Value of whole||£2,500,000|
|Maximum value of gift||£325,000|
|Required value of retained interest||£2,175,000|
[2,175,000 x 100/90] ÷ 2,500,000
Therefore the share that is given and which results in a gift of £325,000 is only 3.33334% even though 3.33334% of £2,500,000 is only £83,333.
It is only necessary to go through this calculation when the first gift is made. As the property will no longer be owned exclusively by the taxpayer then their remaining interest will already have a discounted value.
Assuming the taxpayer subsequently wanted to make a further gift with a value of £325,000 then the calculation would be as follows:
325,000/2,175,000 x 96.66666%
A second gift by the taxpayer worth £325,000 will therefore be of a 14.444435% share of the whole.
The content of this article is for general information only. For further information regarding death in the digital age, please contact a member of the Estates Planning and Wills Team. Law covered as at October 2016.
The content of this article is for general information only. It is not, and should not be taken as, legal advice. If you require any further information in relation to this article please contact the author in the first instance. Law covered as at October 2016.