Inheritance Tax 
Tax Tips Articles & Advice Legal Updates Probate
Gifts with Reservation of Benefit
Related links:
TaxCafe Tax Guides
How to Avoid Inheritance Tax & Tax Planning for Couples
Chargeable Lifetime Transfers & Potentially Exempt Transfers
Related Articles:
See the Articles & Advice section for a wealth of information on tax planning.Reservation of Benefit Rules
The Finance Act of 1986 attempted to deal with inheritance tax avoidance schemes specifically in situations where an individual gifted property to someone else in order that the item would not form part of their estate for inheritance tax but retained a benefit or enjoyment of it.
Where such a situation occurs the gifted property will still be deemed to form part of the donor's estate for inheritance tax purposes.
Example
Ben has an estate worth £500,000 the main asset being his property worth £300,000. He decides to gift the property to his nephew but continues to live there without paying any commercial rent.
Upon his death his nephew Phil argued that the property was a gift to him and as his uncle had survived 7 years after having made the gift, there was no inheritance tax due. The Inland Revenue argued that because Ben and retained benefit and enjoyment from the property, it remained part of his estate for inheritance tax purposes.
Thus, a Reservation of Benefit will occur if the transferee (person to whom gift was made) does not assume possession or enjoyment of it, or the transferor is not excluded from enjoyment of the gifted property or the transferor has a contractual right over the property.
Mere incidental enjoyment of a gifted asset will not constitute a problem however. For example, if Jerry gives his daughter an antique cupboard which he happens to see when he visits her house occasionally, this will not be a gift with reservation.
Taking Care of Relative
If property is gifted to a relative what happens if the transferor of the property has to move back into the property due to poor health and requires care?
Example:
Beryl, a wealthy widow gifts her property Marsh End to her son and daughter in law who then move in and use the property as their primary residence. A couple of months later however, Beryl has a stroke and now requires constant care thus moves back into the property with her son and daughter in law.
In these circumstances there will be no gift with reservation of benefit.
Provided the move back into the property is for the provision of 'reasonable maintenance and care' by the transferee and the transferee is a relative the GWROB rules will not apply.
This situation can also arise where a transferor has gifted property and several years later he or she needs to move back into the property to be cared for due to ill health infirmity or old age. Furthermore, the 'change of circumstances' must be unforeseen; if the transferor is already ill when he or she made the gift, this will be seen as a gift with reservation of benefit.
Problem with Gifts with Reservation of Benefit
A gift with Reservation of Benefit will remain part of the estate for inheritance tax purposes. There will also be an additional charge on the original transfer if the transferor did not survive 7 years after making the failed gift! Thus, whilst the gift was ineffective in being excluded from the transferor's estate it is still a transfer of value and will be regarded as a PET.
In short, there could be tax on the transfer AND on the asset deemed to be still part of the transferor's estate.
The gifted asset will also form part of the transferee's estate thus giving rise to another double charge. (Reliefs are available but they do not resolve the problem).
Additionally, whilst the gift proved ineffective for inheritance tax purposes it may be subject to Capital Gains Tax as it will constitute a disposal.
If a transferor makes a gift of property, continues to live there for a period but then moves out, the reservation of benefit will have ended and the gift constitutes a PET.
Example:
Max gifts his property of Wildacre to his son Matthew in 2000. He continues to live there for a number of years (thus reservation of benefit rules will apply).
In 2003 Max moves out. The reservation of benefit thus ends, and consequently the gift of the property constitutes a PET from the date Max moved out i.e. 2003.
If Max lives a further 7 years there will be no inheritance tax to pay as the reservation of benefit ceased in 2003 and transfers are exempt after the 7 year period.
Escaping the Gifts with Reservation Rules
The FA 1986 provided for a number of 'let out' previsions, namely covering situations where there would be a prima facie reservation of benefit but to which the rules do not apply. These are explained briefly below.
- Full Consideration
A crucial let out provided by the FA states that where a donor gifts property or chattels and has continued use and enjoyment of them, the reservation of benefit rules will not apply if the donor provides "...full consideration for money or money's worth."
Example:
Ben gives his property Marsh Lane to his son Jack. Ben continues to occupy and enjoy use of the property under an assured shorthold tenancy paying a full market rent. Thus, the gift with reservation of benefit rules will not apply.
In order to be successful the full consideration method must:
- The consideration paid must be full consideration throughout the occupation of the donor/transferor. The transferor will be deemed to have reserved a benefit for any stage that the consideration is less than full. Thus, normal rent reviews should be incorporated into any tenancy agreement, reviewed and observed.
- The legislation gives no guidance as to how the rental value is to be arrived at. However, as with any tenancy agreement it should take into account the standard terms on repairing, insuring etc. thus reducing the rental amount due.
- The full consideration need not necessarily be rent and a premium figure can be negotiated to avoid the uncertainties of rent increases in future.
Pre-Owned Assets Tax Charge
An additional anti avoidance reaction from the government introduced new rules in April 2005 known as the Pre-Owned Assets Tax Charge which means that anyone who has previously gifted an asset but retains benefit and enjoyment from it will be hit by an income tax charge. See Pre-Owned Assets Tax for a fuller explanation.
