The Paper F6 (UK) syllabus requires a basic understanding of inheritance tax (IHT), and this two-part article covers those aspects that you need to know. It is relevant to candidates sitting Paper F6 (UK) in either the June or December 2014 sittings, and is based on tax legislation as it applies to the tax year 2013-14 (Finance Act 2013).
There will always be a minimum of five marks (but no more than 15 marks) on IHT, with these marks being included in either Questions 3, 4 or 5.
The scope of inheritance tax
IHT is paid on the value of a person’s estate when they die, but it also applies to certain lifetime transfers of assets. If IHT did not apply to lifetime transfers it would be very easy for a person to avoid tax by giving away all of their assets just before they died.
As far as Paper F6 (UK) is concerned the terms ‘transfer’ and ‘gift’ can be taken to mean the same thing. The person making a transfer is known as the donor, whilst the person receiving the transfer is known as the donee.
Unlike capital gains tax where, for example, a principal private residence is exempt, all of a person’s estate is generally chargeable to IHT.
A person who is domiciled in the UK is liable to IHT in respect of their worldwide assets. As far as Paper F6 (UK) is concerned people will always be domiciled in the UK.
Transfers of value
During a person’s lifetime, IHT can only arise if a transfer of value is made. A transfer of value is defined as ‘any gratuitous disposition made by a person that results in a diminution in value of that person’s estate’. There are two important terms in this definition:
- Gratuitous: Poor business deals, for example, are not normally transfers of value because there is no gratuitous intent.
- Diminution in value: Normally there will be no difference between the diminution in value of the donor’s estate and the increase in value of the donee’s estate. However, in some cases it may be necessary to compare the value of the donor’s estate before the transfer, and the value after the transfer in order to compute the diminution in value. This will usually be the case where unquoted shares are concerned. Shares forming part of a controlling shareholding will be valued higher than shares forming part of a minority shareholding.
On 4 May 2013 Daniel made a gift to his son of 15,000 £1 ordinary shares in ABC Ltd, an unquoted investment company. Before the transfer Daniel owned 60,000 shares out of ABC Ltd’s issued share capital of 100,000 £1 ordinary shares. ABC Ltd’s shares are worth £8 each for a holding of 15%, £10 each for a holding of 45%, and £18 each for a holding of 60%.
Although Daniel’s son received a 15% shareholding valued at £120,000 (15,000 x £8), Daniel’s transfer of value is calculated as follows: