In a Budget which has been criticised on all sides the Chancellor Alistair Darling has for once not taken the opportunity to alter much which affects the Wills, Probate and Trust practitioner who does not deal with offshore matters.
The three headline items are:
- the significant increase in income tax rates on trusts with no interest in possession
- the expansion of the geographic area to which Agricultural Property Relief applies and
- the bringing of IHT into line with the new compliance regime
Press Notice 2
This lists the rates and allowances for the various taxes for 2009/10. It therefore confirms that the CGT annual allowance for individuals rises to £10,100 and therefore for most trusts it rises to £5,050.
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Controversially the Chancellor announced that an additional higher rate of income tax will be introduced from 6 April 2010 of 50% for individuals with an income of over £150,000 per annum.
Coupled with that the basic personal allowance for income tax will gradually be reduced to nil for individuals with ‘adjusted net incomes’ above £100,000. The value of the personal allowance will be tapered down to zero i.e. the amount of the allowance will be reduced by £1 for every £2 above the £100,000 limit.
In the Pre-Budget Report 2008 the Chancellor announced an intention to introduce a higher income tax rate of 45% with effect from 6 April 2011. At the time this meant that the special trust rates had to be altered to continue to match the highest rate of personal income tax to prevent individuals using trusts for personal tax avoidance.
Even before the proposed tax increase came into effect it has been increased and brought forward. This has resulted in the dividend trust rate being increased to 42.5% and the trust rate on other income being increased to 50% both with effect from the 6 April 2010.
These changes will have a significant impact on trusts. If a beneficiary is a non-tax payer there will be a lower net of tax payment which can be distributed by the trustees necessitating a larger re-claim with at the other end of the spectrum a probably small claim for settlor-interested trusts where the settlor has less than £150,000 pa income and where the differential rate between the tax deducted at source and the Settlor’s own rate of tax may only be 10%.
Whilst the capital value of trust assets may have slumped this is a sensible time to review a trust’s investment strategy away from income to capital growth, if this meets the needs of the beneficiaries. From 6 April 2010 income will be taxed to 42.5% and 50% and switching capital assets now is likely to make a loss or only cost 18% CGT. If the trustees in future then chose to make capital distributions rather than income distributions even with the IHT exit or proportionate charge of no more than 6% in addition to the 18% CGT charge this will mean less tax is paid than if income is received and distributed.
Agricultural Property Relief
In January 2008 the European Court of Justice handed down their decision in the German case of Theodor Jager v. Finanzamt Kusel-Landstuhl (Case 256/06) concerning the interpretation of the Treaty provisions on the free movement of capital.
The applicant was the sole heir of his mother’s estate. She was resident in Germany; he was resident in France. There were assets in Germany and land in France used for agriculture and forestry. The German authorities denied favourable IHT treatment of the French agricultural and forest estate because it was not situated in Germany. The assessment to tax on this basis was rejected by the applicant and as a result the national court decided to stay the proceedings whilst it referred the matter to the European Court of Justice (ECJ). The ECJ found that the geographical restriction was a barrier to the free movement of capital within the EU.
In January 2009 the EU Commission requested that the UK Government consider amending a similar restriction in APR for IHT.
Budget Note 50 announces that APR for IHT is to be extended from 22 April 2009 to agricultural land in all European Economic Area (EEA) states. IHT due or paid on or after 23 April 2003 in relation to agricultural land in an EEA state will become eligible for relief but the deadline for claiming repayment of any IHT paid will be 21 April 2010.
As part of the changes to the compliance regime there will be a new time limit restricting repayment claims to 4 years from 6 and this will not apply to APR claims until 1 April 2011.
It should also be noted that CGT hold-over relief will also now apply to agricultural property located in an EEA state. The time limit for claiming hold-over is 5 years from 31 January following the tax year to which the claim relates. Claims in respect of the tax year 2003-04 can therefore be made until 31 January 2010.
Compliance Checks, Penalties and Interest
Budget Notes 89, 90 & 91 report on various outcomes of the Review of HMRC Powers, Deterrents and Safeguards project.
Budget Note 89 deals with the issue of compliance checks. IHT will be brought within the Schedule 36 FA 2008 scheme and this will mean:
- Alignment & modernised record-keeping requirements which will be introduced by Treasury Order from 1 April 2010
- New inspection and information powers including a new HMRC valuation power which will be introduced by secondary legislation following the Finance Bill 2009 gaining Royal Assent
- Better aligned time limits for making tax assessments and claims – currently for IHT the time limit for changing the amount of tax due is 6 years from the date when the last payment of tax was made, or the date when fraud, default or neglect comes to HMRC’s knowledge. In future it will be 4 years for claims and mistake; 6 years for careless errors and 20 years for deliberate avoidance.
- Repeal of previous legislation.
Budget Note 90 advises that legislation will be introduced in the Finance Bill 2009 to reform the penalty regime for late filing of tax returns and late payment of tax. The new provisions will be brought into effect by Treasury Orders which will specify the dates from which they have effect.
The penalty for late filing of an IHT form is £100 penalty immediately after the due date for filing (whether or not the tax has been paid). Penalties for late payment of tax include 5% of the amount of tax unpaid, generally one month after the payment due date.
Budget Note 91 announces that legislation will be introduced in the Finance Bill 2009 to create a harmonised interest rate regime for the automatic setting and implementation of interest rate changes.
The rules will provide for interest to be charged from the date the tax was due to be paid to HMRC until the date it is paid. HMRC will also pay interest on repayments from the date the tax was due to be paid or, if later, the date the payment was actually received, to the date the repayment is made. The rate of interest will be a simple single rate based around the Bank of England base rate.
The changes to income tax will have a profound effect on the administration of English trusts and trustees should be reviewing their investment strategy with immediate effect.
Strangely, the effect of the income tax rate changes may be more trusts transferring offshore or becoming Settlor-interested to reduce the headline rate of tax on the trust.
The extension of the APR to agricultural land in the EEA states is something of a welcome surprise as it was expected that the Government would simply abolish the relief. However, it does mean that practitioners who might have concluded estates some time ago will need to re-open them and make a repayment claim. There is no a lot of time for making eligible claims for tax paid from 2003/04 onwards.
Knowing when secondary legislation has been introduced and comes into effect is not always easy and practitioners should therefore keep their eyes peeled for the introduction of many operational changes to IHT which will come in as a result of the HMRC review of Powers, Deterrents and Safeguards project.
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