Potentially Exempt Transfers and Inheritance Tax

Posted 10 February 2016
Written by Iain Cameron
Her Majesty’s Revenue and Customs (HMRC) newsletters and judgments in the tax tribunal do sometimes throw up interesting (and amusing) cases with a cautionary sting in the tail.

The recent case of Hutchings [TCO04221] emphasises the importance of disclosing gifts made in the seven years before death (potentially exempt transfers or PETs), and the potential penalties for not doing so.

After death it is the responsibility of the personal representatives (the PRs, either the executors of a Will or the administrators of an intestacy) to make an accurate inheritance tax return, to show the amount of tax due (using IHT400) or why there is no tax due (IHT205). It is therefore the PRs who are primarily responsible for any unreported gifts, or for failing to make adequate enquiries to identify gifts made in the last seven years. There are significant penalties based on the amount of tax revenue that would have been lost if this is not done.

However, the PRs cannot be liable if the recipient of the gift does not disclose it to them when asked. HMRC consider this to be a deliberate attempt to evade (rather than avoid) tax and can impose a minimum penalty of 50% of the tax undeclared, as well as collecting the tax, on the beneficiary, as long as the PRs took reasonable care in making enquiries.

Mr Hutchings died in 2009 leaving most of his estate to one of his five children. His executors were a solicitor and a land agent who asked the children during a meeting, and in writing, to disclose any gifts that had been made to them in the preceding seven years. The PRs then submitted a tax return showing an estate in excess of £3 million.

What they didn’t know was that Mr Hutchings also had nearly half a million pounds in a Swiss bank account. Strangely he had also forgotten to tell HMRC about it. Six months before his death Mr Hutchings transferred the account into the name of the same son he left most of his estate to. The son carried on the family tradition of not bothering the tax authorities about the capital, or indeed the £10,000 a year of interest that it generated.

Some time after a family meeting (that was secretly recorded) HMRC received an anonymous tip off about the undeclared bank account. When the son received a “direct challenge letter” from HMRC his solicitor informed the PRs and they wrote to the tax authorities saying they had been “seriously misled about this gift”.

Inheritance Tax was then assessed on the son personally at 40% of the lifetime gift (after deducting the nil rate band) and he paid nearly £47,000 in tax without argument. What he did object to was the penalty also imposed on top of this, which was based on the “potential lost revenue” of 40% tax on the half a million pounds. It also meant that his sisters did not get any tax relief on the money left to them.

The son blamed the personal representatives for not making it clear that “any gifts in the previous seven years” included being given a bank account with half a million pounds in it. The Tribunal were as rude as they could be about the evidence he gave and the accusations he made about the PRs. The penalty was initially wrongly assessed at 35% of the lost tax, increased to 65%, and then reduced on appeal to 50%. So as well as the £47,000 of tax he also has to pay another £87,533.80 in penalties. It could have been twice as much if he had not cooperated with the investigation.

The moral of the story is for executors to ask the right questions and for beneficiaries to give truthful answers!

For more information contact:
Iain Cameron, Solicitor
Star Legal