IHT reservation of benefit created by leasehold covenants – Viscount Hood v HMRC

Wed 17 Feb 2016

Finance Act 1986 (FA 1986) s 102 treats property that an individual has given away as remaining in the donor’s estate for IHT purposes if

·         (s 102 (1)(a)) possession and enjoyment of the property is not bona fide assumed by the donee at or before the beginning of the relevant period (the seven years prior to the occasion of charge- the death of the donor); or

·         (s 102 (1)(b)) at any time in the relevant period the property is not enjoyed to the entire exclusion, or virtually the entire exclusion, of the donor and of any benefit to him by contract or otherwise.

A gift that does not meet both of these criteria is a gift with reservation of benefit (GROB) which results in the value of the property at death being treated as part of the deceased donor’s estate. Since it is not too difficult for gifts to be structured so that at the time of the gift the donee does obtain possession and enjoyment of the property, even if the donor then occupies it, it is the second part of the test, s 102 (1)(b) that has caused difficulties for estate planners.

In Viscount Hood, executor of Lady Diana Hood deceased v HMRC ([2016] UKFTT 59), the taxpayers have not convinced the First Tier Tribunal (FTT) that Lady Hood had successfully created an “Ingram-type” arrangement that would enable her to give away legal ownership and continue to occupy her home afterwards without her estate incurring IHT.

In Ingram, Lady Ingram had successfully avoided s 102 by giving legal ownership of her home away after she had created for herself a lease-back of the property; the result was that when she gave the property away she had already created and retained her right of occupation and so did not receive the benefit of occupation out of the property given away but out of a pre-existing right.

In the recent case of Buzzoni the facts were similar but not identical in that the deceased (the late Mrs. Kamhi) had made arrangement that involved legal covenants from which she might benefit should those covenants ever be enforced against the donees. In Buzzoni the chance of those covenants ever being enforced and the value of those covenants were so small that the Court of Appeal accepted that any benefit to Mrs. Kamhi was virtually entirely excluded.

It was accepted in Hood that Lady Hood’s occupation of the property was not in itself sufficient to constitute a reserved benefit because of the way in which her sub-lease of the property was created. However, if she obtained any other benefit in relation to the property the entire value of the property would be treated as remaining in her estate.

The first argument put forward by the executor was that, as in Buzzoni, the benefit that Lady Hood received back was so small that she should be regarded as virtually entirely excluded from benefit. A key difference was that in Buzzoni the covenants were given to the head landlord, i.e. Mrs. Kamhi’s landlords, and not to her. Therefore Mrs. Kamhi only received a small, indirect benefit and the value of the covenants she received was regarded as too substantial for that to apply. In this case the covenants were made with, and benefited Lady Hood and so were of too great a value for her to be said to have been excluded from benefit. Therefore the Buzzoni argument failed.

Counsel for the executors then put forward the “trenching argument” that the benefit to Lady Hood was not received out of the property gifted. The key difference here was that in Buzzoni the sub-sub lessees to whom Lady Hood made her gift were not parties to the head lease and so when they gave covenants to Lady Hood these were benefits derived from the gifted property and not benefits that she already enjoyed before the gift was made.

The next, similar, argument was that although the arrangement was structured as a sub-lease out of which Lady Hood was then granted the covenants that constituted the benefit, the transaction should not be treated as a series of transactions, i.e. with the granting of the covenants separated from the gift, but as one composite transaction in which the grant of the covenants was effectively bundled up with the gift, meaning that Lady Hood had not received anything new as a result of the arrangement. The Judge said that what has to be identified is what is retained and what is given away. In this case the burden on the donees of the covenant was a condition of the gift and as such could not be treated as something the Lady Hood retained out of her existing rights over the property.

The final argument put forward was that because the value of the covenants would fall into Lady Hood’s estate, to tax her on the value of the property as well would amount to double taxation. The FTT found that this was not necessarily the case but even if it were that fact would not be reason to disapply GROB because the plain intention of the statute was to catch and tax gifts that sought to circumvent the IHT rules. The fact that a double charge might be created served only to illustrate the deliberately penal nature of the GROB rules.

This case shows how arrangements made in the past can create issues in the present. Ingram schemes have been effectively rendered non-viable for most people by legislative changes, in particular the pre-owned assets tax (POAT). But many variations on the Ingram theme remain in place and it cannot be assumed that Buzzoni means they will be effective. Every case involving a GROB will need specialist examination and legal analysis.

It should also be remembered that Buzzoni was only decided in the taxpayer’s favour when it reached the Court of Appeal: Lady Hood has only just passed through the FTT and further appeals may yet be made.