Introduction
1. This report is intended for private clients with an interest in personal tax, property and issues relating to family wealth and the home. It is a summary of the main points made in the Budget today and contains Sykes Anderson’s comments as to the likely practical effect and steps which you may consider taking. The detailed proposed legislation will appear in the Finance Bill which will be published within the next few weeks.
2. Please note that the information herein is of a general nature and you should not act or refrain from acting on it without professional advice on the specific facts of your case. Taxation is a complex subject and what follows is a basic outline only.
Inheritance Tax
3. Each individual has an Inheritance Tax (“IHT”) free allowance. This has been increased in the Budget 2004 from £255,000 to £263,000. This means that broadly an estate will be taxed to IHT at either 40% (death) or 20% (lifetime) to the extent that it exceeds £263,000 at the date of death. The rules for Potentially Exempt Transfers (tax free after 7 years) remain unchanged.
4. However, if gifts have been made during the last 7 years before the deceased’s date of death, these will be taken into account and will count towards the tax free sum.
5. Some lifetime gifts are automatically chargeable to the extent that they exceed £263,000 during your lifetime such as gifts to Discretionary Trusts.
6. There is also a simplified IHT administration.
Sykes Anderson comment
7. The increase in the nil rate band is too low given house price inflation and Inheritance Tax is excessive even for moderately well off people. The large number of schemes to avoid Inheritance Tax, many of which are unlikely to be effective will continue to proliferate. The Revenue’s proposals for the promoters of these schemes to disclose them in advance will cause problems.
8. We will be holding a seminar to discuss the detailed changes.
Property Jointly Owned by Married Couples
9. This will affect couples who own “close companies” who will have to pay income tax on dividends in proportion to their ownership of the jointly held shares
10. From 6 April 2004, the Government will legislate to ensure that married couples will be taxed on dividends from jointly owned shares in close companies (mainly companies owned by their directors or five or fewer people) according to their actual ownership of the shares. For example if a spouse is entitled to 95% of the income from some jointly owned shares they will pay tax on 95% of the dividends from those shares. This closes a loophole currently being exploited by owners of close companies, and will not apply to income from jointly owned shares in non-close companies or to other assets in joint names such as rental property.
11. This will affect couples who own “close companies” who will have to pay income tax on dividends in proportion to their ownership of the jointly held shares
Sykes Anderson comment
12. This planning step has received a lot of Revenue scrutiny over the past year. It allows a spouse who want to keep control of a small company to allocate income to a spouse who is not working and take advantage of that spouse’s lower rates of tax. It is part of a general Revenue clamp down.
13. As this area is high on the Revenue’s hit list the best advice is to keep it simple and pay your spouse a salary and ensure that she does some work to justify the salary. Although you may have some National Insurance to pay it will probably work.
Inheritance Tax - Pre-Owned Assets
14. This will affect people who have entered into contrived arrangements to dispose of valuable assets, while retaining the ability to use them including the double trust scheme, IOU scheme and lifetime debt scheme. The main purpose of arrangements subject to the charge is to avoid inheritance tax. There are specific exceptions to the charge which are explained below.
15. The Pre-Budget Report announced that a free-standing income tax charge will apply from the 6 April 2005 to the benefit people get by having free or low-cost enjoyment of assets they formerly owned (or provided the funds to purchase). The charge will apply in appropriate circumstances both to tangible assets (with separate provision for land, including living accommodation, and for chattels) and to intangible assets. Broadly following the model of the benefit-in-kind charge on employees, the rules will quantify an annual cash value for the benefits enjoyed by a taxpayer: this will be treated as an addition to their taxable income, subject to a de minimis threshold, and a set-off for any amounts made good by them for the benefit.
16. The charge will apply when a benefit is received in chargeable circumstances in or after the income tax year 2005-06.
17. The Government is aware that various schemes designed to avoid inheritance tax have been marketed in recent years. These use artificial structures to avoid the existing rules about gifts made with reservation. As a result, people have been removing assets from their taxable estate but continuing to enjoy all the benefits of ownership. The Government is determined to block this sort of avoidance and announced in the Pre-Budget Report that people who benefit from these sorts of schemes would be subject to an income tax charge from April 2005, to reflect their additional taxable capacity from receiving these benefits at low or no cost.
18. Following consultation, the Government has confirmed, and proposes to extend, the exclusions outlined in the consultation document published following the Pre-Budget Report. So the proposed charge will not apply to the extent that: the property in question ceased to be owned before 18 March 1986; property formerly owned by a taxpayer is currently owned by their spouse; the asset in question still counts as part of the taxpayer’s estate for inheritance tax (IHT) purposes under the existing “gift with reservation” (GWR) rules; the property was sold by the taxpayer at an arm’s length price, paid in cash: going further than the consultation document, this will not be restricted to sales between unconnected parties; the taxpayer was formerly the owner of an asset only by virtue of a will or intestacy which has subsequently been varied by agreement between the beneficiaries; or any enjoyment of the property is no more than incidental, including cases where an out-and-out gift to a family member comes to benefit the donor following a change in their circumstances.
19. More generally, the rules for tangible assets will mean that former owners will not be regarded as enjoying a taxable benefit if they retain an interest which is consistent with their ongoing enjoyment of the property. For example, the proposed charge will not arise where an elderly parent formerly owning the whole of their home passes a 50 per cent interest to a child who lives with them. 7. Intangible assets formerly owned by the taxpayer (or derived from other property formerly owned by them) will be treated as giving rise to a taxable benefit, only to the extent that the taxpayer may derive benefits from them, and those benefits would diminish the benefits potentially available to others. So for example, no charge would apply if the taxpayer has funded life insurance policies held on trust and the taxpayer’s continuing claims are limited to particular retained benefits, such as the return of the life assurance premium, and the balance of the policy value is held on trust solely for others. But a charge would be due if, say, the whole value of such a life policy was held on discretionary trusts for a class of beneficiaries including the settlor (and the circumstances were such that the trust property was not covered by the existing “gift with reservation” rules).
20. The charge will apply to residents of the UK. For taxpayers who are domiciled in the UK (or deemed to be), the charge will apply to their assets anywhere in the world. For taxpayers who are not domiciled in the UK (or not deemed to be), the charge will apply only to their UK assets. For taxpayers who have become domiciled in the UK (or deemed to be), the charge will not apply to any non-UK assets which they ceased to own before they acquired that domicile.
21. The consultation document said that there would be a substantial de minimis threshold below which the cash value of benefits in a given year would be disregarded. The Government has decided to set this threshold at £2,500 per year.
22. A number of responses in consultation made the point that existing users of tax-driven schemes may find it difficult or impossible to dismantle the resulting structure - so eliminating any income tax charge and re-instating the potential IHT charge they originally sought to avoid - although that is, with hindsight, the outcome that many of them would prefer. In response to that, the Government proposes, additionally, that taxpayers involved in existing schemes may choose a special transitional treatment if they elect for this by 31 January 2007. If they elect, they will not be subject to the new income tax charge in relation to property covered by the election, but the property in question will be treated as part of their taxable estate for IHT purposes, while they continue to enjoy it, in essentially the same way as under the existing “gift with reservation” rules. As under those rules, property subject to such an election would be potentially eligible, in due course, for the normal IHT reliefs and exemptions available, for example, to business and agricultural property, and to heritage assets.
23. The Government has confirmed the approach outlined in the consultation document and proposes that the cash value of benefits should be determined by reference to market rentals in the case of land, and by reference to imputed percentages of capital value in the case of chattels and intangible assets. They would welcome further representations, in the light of the decisions now announced, on the detailed arrangements that should apply to valuation and on the rates of return for chattels and intangibles, so they reflect available market evidence while minimising avoidable compliance costs. They therefore propose to settle these matters in secondary legislation following a further round of consultation which the Inland Revenue will undertake later this year.
Sykes Anderson comments
24. In recent years there has been an increase in the number of IHT savings schemes that have been actively marketed, in particular dealing with IHT on the family home. This has lead to this change by the Government
25. There are simpler steps that can be taken to reduce IHT on your estate such as gifting a share of your property to your children on the first death, or downsizing your property to make it close to or below the IHT threshold. These do not involve complicated schemes and are unlikely to be challenged by the Revenue.
26. Some of the most widespread schemes which had not been challenged previously by the Inland Revenue involved double trusts, IOU’s and lifetime debts. These were thought to have been accepted by the Revenue and had not been attacked until this Budget.
Capital Gains Tax
27. The annual exempt amount is £8,200 for 2004-2005 (which is an increase from £7,900 in the current tax year). CGT is charged at a starting rate of 10%, rising to 20%, and 40% in accordance with the income levels of the individual making the gain.
Sykes Anderson comment
28. Most people do not make use of their valuable CGT exemptions. These can be very useful especially in conjunction with Inheritance Tax planning for slowly transferring assets pregnant with gain to children.
Stamp Duty Land Tax
29. The rates of SDLT remain the same.
30. There are a number of changes. The most important practical change relates to subsales.
31. Legislation will be introduced to bring partnership transactions, including those dealing with land within the scope of SDLT. Currently, most transfers of land into and out of partnerships are excluded from SDLT and are dealt with under the old Stamp Duty regime.
Sykes Anderson comment
32. There are a number of loopholes in the SDLT legislation and the government seems determined to clamp down on them to avoid the laissez faire situation which meant that the old stamp duty became a voluntary tax. We need to see the detailed provisions before commenting further.
Tax Avoidance
33. The government is introducing a new disclosure measure to counter widescale avoidance devices. Promoters who market schemes and arrangements that meet certain criteria for direct taxes will be required to disclose details of these schemes to the Inland Revenue.
34. Business with an annual turnover of £600,000 or more using a VAT avoidance scheme and those with and annual turnover of £10million or more using a VAT arrangement will need to notify Customs and Excise.
Sykes Anderson comment
35. These are unusual proposals and are bound to meet with stiff resistance and are probably unworkable in some situations. They may also breach the European Convention on Human Rights insofar as it relates to freedom of speech The definition of “promoter” will have to be tightly drawn. It may be unworkeable in the case of schemes marketed from outside the UK. Any legislation in this area is unnecessary and undesirable.
Promoting more flexible investment in property
36. The Chancellor today launched a consultation on the most appropriate structure for a new Property Investment Fund, a UK version of the successful US Real Estate Investment Trusts (REITs), alongside the taxation of related property investment products. In addition, consultations will continue on the introduction of legislation to facilitate the removal of tax barriers to the development of a market in property based derivatives. This will encourage more efficient investment in property.
Sykes Anderson comment
37. This has already been widely publicised and is to be welcomed
International Cooperation
38. The Inland Revenue and Customs & Excise have begun discussions with the tax administrations of Australia, Canada and the United States to establish a joint task force to increase collaboration and coordinate information about abusive tax transactions. They plan to share expertise, best practices and experiences within the framework of the four countries' existing tax treaties. Representatives of the four administrations will be meeting in Washington shortly to finalise plans for this initiative.
Sykes Anderson comment
39. Most of the double tax treaties to which the UK is a partner contain provisions for the exchange of information. Some are restricted to the particular taxes covered by the treaties which are usually not all encompassing. They may also not extend to nationals or residents of third party states There are already legal provisions for the exchange of information within the EU and for enforcement of say French Tax due through the UK courts.
40. There needs to be safeguards built into any exchange of information provisions covering the type of information which can be exchanged and the use to which the receiving country can put it to. For instance if the UK receives information from Australia as to the tax position of a Canadian company can it pass the information on to the German Revenue.
Simplifying Self Assessment tax returns
41. This is likely to affect people who receive self assessment tax returns but have simple affairs, for example, straightforward investment income, or a modest amount of income from property, including: employees (other than company directors); small businesses (i.e. self-employed with a turnover less than £15,000); and pensioners in receipt of state retirement pension, an occupational pension or a retirement annuity.
42. The short tax return is four pages long and is around one-third the size of an average self assessment tax return with supplementary pages. The associated guidance is also much shorter and simpler. There is no need to calculate the tax on the form. Taxpayers are encouraged to file by 30 September so Inland Revenue can calculate their tax position for them and let them know how much to pay (if anything) by January. But for those who want to know sooner, there is a two page simple calculation to give people a rough idea of their tax liability.
43. The short tax return will be issued automatically based on the information in the previous year’s return. However, it will remain the taxpayer’s responsibility to check their eligibility to complete the return as their circumstances may have changed during the year, meaning a short tax return is no longer appropriate. Details of eligibility are set out clearly at the front of the guide.
44. The short tax return has been designed so that the information provided on it can be captured automatically onto the Inland Revenue’s systems, using automated data capture technology. This will result in the more efficient and accurate processing of these returns.
45. Customers receiving the form can choose to file electronically using the Inland Revenue’s own online tax return or approved commercial product. The ‘telefiling’ pilot, allowing customers to give their short tax return information over the telephone to a voice recognition facility, will be continued this year on a small scale.
46. From April 2004 over 400,000 taxpayers will be sent the short tax return instead of the main return, increasing from 50,000 in last year’s pilot. The new form will be rolled out nationally in April 2005, when around one and a half million taxpayers should benefit from the new form.
Sykes Anderson comment
47. This will reduce the administrative burden and costs of compliance and is to be welcomed.
Offshore funds
48. This will affect UK residents who have investments in offshore funds.
49. The changes reform the tests to determine whether or not a fund qualifies for "distributor status". This in turn determines the tax treatment of a UK investor. The aim of the changes is to bring more investments within the scope of being "distributing" which will mean that a UK investor will have the same tax treatment as if they had invested in an equivalent UK fund.
50. The new rules will affect the first account period of an offshore fund ending on or after the date the Finance Act receives Royal Assent.4. At present, offshore funds have to determine whether or not they qualify as "distributing" funds.
The Rate Applicable to Trusts
51. The tax system for Trusts has been modified and a package of measures will be introduced from 6th April 2005 (with certain measures relating to vulnerable individuals backdated to 6th April 2004). Trusts currently offer higher rate tax payers a way of sheltering assets in a tax efficient manner and the Government has stated that trusts should exist to assist people in managing their affairs but not to achieve unfair tax avoidance.
52. Those likely to be affected are Trustees receiving income or realising capital gains and personal representatives administering an estate that realise capital gains. The tax rate applicable to trusts is to increase from 34% to 40% and the corresponding dividend trust rate from 25% to 32.5% with effect from 6 April 2004.
53. People who receive income from trusts will still be able to reclaim any excess tax paid by the trustees on their behalf and those liable at higher rates will still get credit for tax paid by the trustees.
54. There is also an amendment to section 677 of the Income and Corporation Taxes Act 1988 which charges tax on loans or other capital sums made by trustees to the settlor of a trust (that is the person who put funds into the trust) or their spouse.
55. It was also announced at the Pre-Budget Report that proposals for modernising the tax system for trusts were being put forward for discussion and the outcome of those discussions are covered in
56. Loans or other capital payments made by the trustees of a settlement to the settlor or their spouse are treated as the income of the settlor on which the trustees may have paid tax. The change to section 677 Income and Corporation Taxes Act 1988 ensures the settlor is not given credit for more tax than the trustees have actually paid.
Cross Border Tax Evasions by individuals
57. Soon UK paying agents will be required to report details of savings income paid to certain overseas residents. This measure is designed to circumvent cross-border tax evasion by individuals on their savings income.
Landlord's Energy Saving Allowance
58. Individual landlords (and other landlords who pay income tax) who let residential property will receive an allowance for capital expenditure on loft and cavity wall insulation in rented accommodation from 6 April 2004.
59. The changes will allow landlords a deduction for income tax purposes up to a maximum of £1,500 when they install loft or cavity wall insulation in a dwelling house which they let.
Partnerships
60. Besides the changes to be introduced to bring partnerships within the SDLT regime, referred to above, changes are also set to be introduced so that partnership losses claimed against other income and gains by non active partners will be restricted to the amounts actually contributed to the business; and disposals of future income streams by non active partners will be charges to income tax on disposal.
17th March 2004
Budget Day 2004
9 Devonshire Square, London EC2M 4YF Tel 020 3178 3770 Fax 020 3178 3771 DX 729 London/City E-mail: |
||
 |