Excepted Estates – Inheritance Tax forms and the probate process

 In Probate, Tax

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The purpose of the Excepted Estates process is to reduce the number of probate cases where a full Inheritance Tax (IHT) account (the IHT 400) has to be used. If the IHT 400 is not needed it reduces the amount of work required in the administration of the deceased’s estate. However, the IHT 205 form, which is considerably shorter, has to be submitted to the Probate Registry instead.

The Inheritance Tax (Delivery of Accounts) (Excepted Estates) (Amendment) Regulations 2011, SI2011/214 came into force on 1 March 2011. They bring into effect some tidying up of the rules but in essence their main purpose is to accommodate the transferable nil rate band.

Small estates

For deaths on or after 1 September 2006 ‘Small estates’, where the gross estate is within one nil rate band, have been able to use the IHT 205 instead of the IHT400; this is extended to those estates where for deaths on or after 6 April 2010 (it is slightly retrospective) there is an inherited NRB from an earlier deceased spouse or civil partner.

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The intention is only to permit the use of the IHT 205 in the simplest cases – i.e. where the whole of the TNRB is available to the surviving spouse or civil partner.

It is a pity that the this relaxation will not therefore apply if ANY of the first spouse’s estate is not given to the surviving spouse since this will mean on the surviving spouse’s death the unused nil rate band will be ignored when considering the filing requirements of that estate.

Exempt estates

Where there is no IHT to pay because the assets passing on the deceased’s death are covered by spouse or civil partner exemption or form a gift to charity then the IHT 205 may be used on the value of estates up to £1 million.

In these circumstances too where the estate does not exceed £1 million and the net estate, after deducting liabilities and available spouse/civil partner and charity exemptions is also increased to include the simple TNRB where again the whole of it is transferred to the deceased.

The opportunity was also taken to remove an anomaly from the excepted estates rules which allowed the IHT 205 to be used in cases falling between the small estates exception and the £1 million exception. To be able to rely on the exempt estates rule for deaths from 1 March 2011 at least part of the estate must pass to a surviving spouse, civil partner or charity for inclusion under this rule.

Normal Expenditure out of Income

For deaths occurring on or after 1 March 2011 a restriction has been introduced on the normal expenditure out of income exemption when determining whether the estate qualifies as an excepted estate or not.

For the sole purpose of deciding whether or not the estate is ‘excepted’, any amount transferred during lifetime over the £3,000 annual exempt amount, in any one tax year, will be treated as a chargeable transfer.

If as a result the estate does not qualify as excepted the full IHT 400 will have to be submitted and the normal expenditure out of income exemption claimed as usual on the IHT 403. The reason for this is that HMRC wish to scrutinise whether the normal expenditure out of income exemption is being claimed appropriately.

For example, until this change Joan would have been able to give her grandchildren David and Claire £500 each per month without it being checked by HMRC to see if the relief really was applicable if Joan’s estate on death was valued at only the Nil Rate Band. The potential seven years of the excess over the annual exemption would have ‘slipped through’ the net.

If Joan were to die on or after 1 March 2011 then on the same facts her PRs would have to submit an IHT 400/403 to be able to claim normal expenditure out of income in relation to the £9,000 of ‘chargeable transfers’ she made per year to David and Claire for the seven tax years prior to her death (i.e. £12,000 pa less the annual exemption of £3,000). In this way HMRC will have the opportunity to decide whether they think the normal expenditure out of income exemption actually applied for each of the seven tax years prior to Joan’s death.

This is similar treatment to cases where, for example, there is a small actual net estate on death but there is a gift with reservation of benefit or there had been gifts of more than £150,000 after deducting IHT exemptions in the seven years before death.

Practice points

  1. Where the estate you are dealing with benefits from a transferable NRB in full consider whether you need to use the IHT 400 or whether as a result of these changes you can simply use the IHT 205.
  2. Normal expenditure out of income is not being capped at £3,000 pa or being abolished it is simply that HMRC wish to have greater scrutiny over its application in smaller estates so encourage all clients wishing to rely on this valuable relief to keep scrupulous records in accordance with the requirements of the IHT 403 reporting form.
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