November 26, 2018

Pension transfer not exempt from Inheritance Tax

In the case of HMRC v Parry (16 October 2018), the Court of Appeal found that a transfer from one pension policy to a personal pension policy, with a statement of wishes identifying particular beneficiaries, was a transfer of value for Inheritance Tax purposes.  As it did not fall within any exemption, it was subject to Inheritance Tax.

The case involved a Mrs Staveley, who had built up a company, Morayford Limited, with her husband.  As part of an acrimonious divorce, Morayford Limited granted her a pension in the form of a s32 buyout policy.   The s32 policy had a surplus which could potentially pass back to her former husband.  Therefore in October 2006, 6 weeks before her death, Mrs Staveley transferred her pension to a newly set up personal pension policy and completed an expression of wish form in favour of her sons.   She died a few weeks later.

HMRC treated the transfer between the pension policies as a "chargeable lifetime transfer" followed by an "omission to act" because Mrs Staveley was terminally ill when she made the transfer and "omitted" to take any benefits from the personal pension policy.   HMRC's view was that the two actions were linked and were intended to reduce the value of her estate for Inheritance Tax (IHT) purposes and her sons' estates were augmented as a result.  They therefore sought to impose IHT on the transfer.

Mrs Staveley's estate argued that the transfer was not meant to "confer a gratuitous benefit" and so was exempt from IHT under a particular exemption in the IHT legislation.

The Court of Appeal found in favour of HMRC, overturning the decisions in lower courts which found for Mrs Staveley.  Although the three judges differed in some of their reasoning they all came to the same decision to allow HMRC's appeal.

The Court decided that the transfer of the policy and Mrs Staveley's omission to take the pension benefits from the personal pension were associated operations intended to confer a gratuitous benefit.   Although the transfer to the new pension was not of itself intended to confer such a benefit, this did not prevent it being part of such an operation which achieved this.  It was enough that it formed part of and contributed to such a scheme which did confer the gratuitous benefit.  Lord Justice Newey thought "while…Mrs Staveley did not see the transfer to the [personal pension policy] as improving her sons' position and she made the transfer to the [personal pension policy] out of a desire to sever her ties to Morayford [Limited], the only reasonably conclusion, as it seems to me, is that she also intended the [personal pension policy] to be a means by which the death benefits could be passed to her sons".

All three judges found that there was an increase in her sons' estates as a result of the omission to take benefits which would give rise to an IHT charge.  Lord Justice Newey thought "the sons' estates are, I think, fairly to be regarded as having been increased "by" the omission of their mother to take benefits before she died.  The sons' estates would not, of course, have been so increased but for the omission".

The judges also rejected the sons' argument that the omission was not sufficiently connected with their receipt of benefits because under the personal pension policy, the scheme administrator had to exercise its discretion in their favour – they had argued that it was not certain that the administrator would have followed Mrs Staveley's expression of wish form. 

Lord Justice Newey thought "the administrator was, after all, doing no more than it was obliged and could be expected to do in the period immediately following Mrs Staveley's death".  Lady Arden thought that generally whether there was an increase in beneficiaries' estates as a result of an omission to take benefits would depend on an assessment of the relevant facts in particular cases.   Here she thought the casual link remained as the nomination in favour of the sons was "relatively straightforward" and so the fund was likely to be paid over for them.  In other cases, it may be different – for example "where the nomination was made a long time before death or where events have occurred which would lead the administrator to consider that the wishes of the deceased should not be followed".  In such cases, she thought a court could come to a different conclusion and attach more weight to the administrator's discretion.

Clyde & Co comment

The case has caused a bit of stir as it raises the possibility that pension members who are terminally ill face an IHT tax charge if they transfer their pension, to seek to take advantange of death benefits, and die within 2 years. It is also unclear what HMRC's position would be if someone was completely unaware they had a terminal illness.

It does seem harsh to penalise people in terminal illness in this way especially where the amount of money transferred between the two plans does not change and the money remained within the "pensions wrapper" at all times (an argument put by the sons' barrister though rejected by the Court of Appeal). 

At the start of year, the Chancellor requested the independent Office of Tax Simplification to carry out a review into Inheritance Tax generally, and how it functions today, to identify simplification opportunities. The OTS published the first part of their review on 23 November 2018 but this dealt primarily with simplification issues.  The second part of the review is due in Spring 2019 and will look into other aspects of the IHT regime including the administration of life insurance and pension products and the taxation of trusts. It is possible that the issue in this case could come within the scope of the OTS's review.