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What HMRC vs Staveley means for adviser clients

Martin Tilley, director of Technical Services, Dentons Pension Management looks at how HMRC will interpretation death benefits in respect of IHT where a pension transfer takes place, in the light of the recent ruling in Staveley vs HMRC

Scrutiny of Chancellor Osborne’s pension freedoms announced in his Autumn Statement of 2014 began almost immediately after they became effective in 2015 and it continues to this day. The freedoms introduced not only far wider withdrawal opportunities, but also considerably more beneficial tax treatment on death benefits. Both of these factors have contributed to a rise in transfers from older less flexible money purchase and defined benefit schemes to the new generation of flexible schemes.

It is this rise in transfers, which has caught the headlines again. A recent ca, although before the introduction of the pension freedoms, will remind advisers that these more tax favourable death benefits may occasionally come at a hefty price.

Most pension transfers pass between registered pension schemes, under which distribution of death benefits will normally be on a discretionary basis and should fall outside of the member’s estate and, in most circumstances, should not fall into the inheritance tax net.

Despite this, HM Revenue & Customs (HMRC) take the view, in Inheritance Tax Manual IHT 17072, that such a transfer gives rise to a lifetime transfer of value for IHT purposes.

Fortunately, HMRC acknowledge that the vast majority of transferors do so to consolidate their pension plans and to allow better financial flexibility for their accumulation and decumulation strategies. Where the transferor lives to enjoy these benefits, HMRC deem that there is no material loss to the estate and thus no IHT will fall due. Indeed, Inheritance Tax Manual IHT 17103 states: While there will be cases where there is an Inheritance Tax liability, these are likely to be relatively few”.

However, where the transferor knows they are in ill health, it could be construed that the transfer was made primarily for the purposes of improving the death benefits receivable by their beneficiaries. IHT 17103 states: “In certain limited circumstances we might take the view that the failure to exercise the right before death gives rise to a lifetime charge to Inheritance Tax under section 3(3).”

HMRC’s guidance on the matter revolves around “the two year” rule.

The deceased member’s personal representatives will need to report any transfer of pension benefits made within two years of the member’s death. The manner of reporting will depend upon the member’s health at the point the transfer was made and HMRC will decide whether to investigate further.

If HMRC conclude that by transferring, there was an intent to convey a “gratuitous benefit” to others, rather than simply to provide better benefits solely for the member, it is likely they will seek to charge IHT on the value of the transfer.

It would then be necessary for the deceased’s representatives to argue that the transfer conveyed no gratuitous benefit under exemptions granted by IHTA Section 10 in order to counter the charge. This is not an easy argument and one which would be hindered further if the individual did not draw benefits after the transfer when they were able to do so.

The Staveley case

Such was the case of Representatives of Staveley vs HMRC.

In this complicated case, which has seesawed between both a First and Upper Tier Tribunal, the Court of Appeal has finally arrived at a decision.

Mrs Staveley transferred benefits from a Section 32 contract to a personal pension scheme in 2006. At the time of the transfer, she was in ill health and she died shortly after making the transfer.

Her personal representatives argued that the primary reason for the transfer was to avoid any funds falling back to the benefit of her ex-husband with whom she had an acrimonious divorce several years earlier. The tribunals agreed with this sentiment and accepted the benefit conveyed to Mrs Staveley’s sons (the beneficiaries under the personal pension plan) was secondary.

However, the Court of Appeal has now accepted HMRC’s view of events in that the transfer was a “chargeable lifetime transfer”,followed by an “omission to act” as Mrs. Staveley did not draw any benefits before she died. HMRC further argued that the two actions (the transfer and failure to act) were linked and designed to reduce the value of her estate for IHT purposes.

As a result of this decision, it is recommended that adviser firms consider these factors in any transfer case that might involve ill health and document fully the primary reasons for the transfer including any intended plans for benefit drawdown.

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