Marginal Gain – August 2019

This week the news has once again been dominated by Trump and China. The drop in the yuan below the symbolically important level of 7 to the dollar prompted howls of criticism from the US with many commentators accusing the Chinese government of currency manipulation. The reality is probably more nuanced.

China is happy for this to be seen as a response to Trump’s tariffs but allowing the yuan to trade more freely is also a long-term goal and their room for manoeuvre is limited. Chinese exporters would benefit from a depreciation to compensate for tariffs but there is a risk of capital flight from the yuan to more stable currencies if it goes on too long. In the short term we can expect volatility to continue as markets react to the moves from each side. In the long term the conventional wisdom still holds. The best prospects for future growth are globally diversified portfolios held for the long term.

In this edition of Marginal Gain we continue our discussion of businesses purchasing commercial property and contested wills as well as looking at a couple of areas where new legislation might be coming down the pipeline.

Dormant Pension Schemes

The number of dormant pension pots has surged, while the average contribution rate has dropped to below pre-auto-enrolment levels, according to latest data from the Office for National Statistics.

The ONS Occupational Pension Schemes Survey published today (June 20) showed there were 18m dormant pensions in 2018, up from 15.8m in 2017, representing old workplace pensions to which a saver no longer contributes.

The increase occurred mainly in the private sector, where dormant pots increased from 11.6m to 13.6m, with a smaller increase in the public sector (4.3m to 4.4m).

According to analysis from Aviva, the number of dormant pensions has risen by more than 80 per cent since auto-enrolment was introduced in 2012.

The ONS data also showed a record number of 45.6m people were saving into a pension scheme in 2018. However, this figure hides the fact many savers are saving minimal amounts, pension experts have warned.

The total membership of occupational pension schemes increased by 4.5m in one year and the number of active members, those still contributing, more than doubled in six years, from 7.8m in 2012 to 17.3m in 2018.

Alistair McQueen, Head of Savings and Retirement at Aviva, said “auto-enrolment has been a force for good, and its delivery of record participation have exceeded all expectation.”

But he added: “Today marks the day when we must stop focusing on all that is great about automatic enrolment, and turn our energies to challenging its unintended consequences.

“The ballooning number of ‘small pots’ will make it harder for millions of savers to manage their money.

“The need for the pensions dashboard is clearer today than it has ever been.”

But the ONS figures also showed that for private defined contribution scheme members, the average total contribution rate was a mere 5 per cent of pensionable earnings, split between workers (2.7 per cent) and employers (2.4 per cent).

In 2012, the average contribution in a private sector occupational DC scheme was 9.7 per cent, which shows that the average contributions are falling to the auto-enrolment minimum.

According to Mr McQueen, this means that millions of new savers may be set for disappointment when they eventually reach retirement.

He said: “Pension providers and employers must continue to educate their customers and employees about adequate saving, and Aviva is also calling for the minimum contribution rate to be increased to at least 12 per cent over the next decade.”

For Helen Morrissey, Pension Specialist at Royal London, today’s figures showed that almost all of the new savers were people with an average of 5 per cent of pay going into their pension pot.

She said: “This compares with those in old style final salary pensions who are getting 25 per cent in total contributions.

“If this disparity is not addressed, we risk a lost generation of people who missed out on final salary pensions but are simply not putting enough into their new style pension. “Automatic enrolment was a great start, but this is simply the end of the beginning.”

Guy Opperman, Minister for Pensions and Financial Inclusion, said the record high of 17.3m active members showed “once again, just how successful the government’s pension reforms have been.”

He said: “They tell a story of millions of people now building a pension pot for their future and looking forward to a better retirement. “

Jonathan HowardAuthor: Jonathan Howard
01908 487531 #6

Purchasing Commercial Property

Director/Shareholder Purchase

The key benefit of this method is that it means the property can be retained if the business is subsequently sold. However, in this scenario the property can also generate a high rental yield which means an income stream which is not subject to national insurance. Rent does not need to be charged at the open market rate and it may be beneficial not to do so both from a cashflow perspective and to ensure eligibility for entrepreneurs’ relief. Entrepreneurs’ relief would mean that if the property is sold at the same time as the business then the capital gain should be limited to 10%. However, Entrepreneurs’ relief is lost if full market rent is charged.

In terms of the taxation of capital gains there is only one layer of taxation rather than two in the case of company ownership. Assuming that there is no residential usage the capital gain over the annual allowance will be taxed at 10% within the basic rate tax band and 20% on any excess. There might also be rollover relief if the proceeds are used to purchase a new commercial property.

Although historically tax on rent could be set against interest payments on property loans this can now only be partially offset and soon no offset will be available.

The key disadvantage is probably that any borrowing associated with the property purchase will be linked to the individual rather than the company. Personal financial difficulties could therefore have a great personal impact and a significant impact on the business if the property needed to be sold. There is an added level of difficulty if the property is owned jointly by multiple shareholders/directors and this is magnified if the desires of the parties diverge or if one person dies.

One further consideration that might discourage this course of action is the risk that if the property becomes subject to VAT then the owners can become personally involved.

Author: Toby Nutley
01908 487531 #7

Another Inheritance Tax (IHT) Review

More than 5,000 inheritance tax (IHT) investigations are opened by HM Revenue & Customs each year, representing about quarter of estates that pay IHT.

A Freedom of Information (FOI) request by Quilter to the tax authority, published on July 22nd, revealed 5,537 investigations were carried out in the last tax year, down 9 per cent on the 6,088 peak in 2013/14 but up 6 per cent on 2015/16.

Figures from HMRC published in May 2019 showed there were about 22,000 estates liable for IHT in 2018/19, meaning a quarter were investigated for possible breaches in that year.

An independent review into inheritance tax has suggested the seven-year rule should be slashed to five years and questioned the role of AIM relief.

The review, conducted by the Office of Tax Simplification (OTS) at the Chancellor’s request, addressed business property relief on holdings listed on the AIM market.

At the moment, holdings in certain AIM shares are free from IHT liabilities, due to this business property relief.

This has given rise to many fund houses creating AIM portfolio funds, which are designed to provide IHT relief. However, the OTS report questioned whether these vehicles are in the spirit of the rules.

The rules were introduced in the 1970’s to prevent family farms and businesses being split up to pay IHT bills, but the OTS said: ‘BPR is not necessary to prevent the business from being broken up or sold in order to fund the payment of IHT.’

‘This raises a question about whether it is within the policy intent of BPR to extend the relief to such shares, in particular where they are no longer held by the family or individuals originally owning the business,’ the report said.

Seven-year rule

The standout proposal in the OTS’s review was the simplification of gifting rules, which would see a radical revamp of the ‘complex’ seven-year rule. The OTS also noted this rule is problematic as it is hard to track bank payments beyond six years.

‘It would clearly be a simplification if executors only needed to account for gifts made within five years of death rather than seven years. The five-year period has been chosen in order to balance easing the administrative burden for executors and limiting the loss of revenue to the exchequer,’ the review said.

The OTS noted that the change would not reduce government revenue, highlighting that only £7 million out of the total £4.38 billion in IHT the government netted in 2015/16 came from gifts that individuals made more than five years before their death.

The OTS also recommended the current taper relief system, which is applied to lifetime gifts, be abolished.

This taper relief reduces the rate of IHT payable on gifts higher than the nil-rate band made three years before death. It is done on a sliding scale dependent on the amount of time between the gift and death.


Another key recommendation is that gift exemptions should be consolidated into one gift allowance. Now that makes a lot of sense!

Bill Dodwell, OTS Tax Director, said: “The taxation of lifetime gifts is widely misunderstood and administratively burdensome.

“We recommend replacing the multiplicity of lifetime gift exemptions with a single personal gift allowance, to be set at a sensible level, and incorporating an increased lower threshold for small gifts.

“The exemption for regular gifts should be reformed or replaced with a higher personal gift allowance.”

Life insurance

Another major recommendation called for by the OTS is to change the term life insurance death benefit system so that there is no need for term life insurance to be written into a trust for it to be IHT exempt.

Currently, term life insurance policies which are not written into trusts form part of people’s estates when they die, meaning they can be liable for IHT. Those written into trusts however are not part of the estate.

The OTS said it would be ‘desirable’ for there to be a standard rule that term life insurance policies fall outside of a deceased person’s estate for IHT purposes, whether or not the policies are written into a trust

HMRC statistics released today (July 19) showed that in June 2019 IHT receipts accounted for £357m, representing a drop of 9 per cent compared with the £393m raised in May and 30 per cent compared with the same month last year.

This was after IHT bills were on an upward trajectory in the past year. In the financial year 2018/19, a record £5.4bn was paid in tax revenue, with the average IHT bill reaching almost £200,000.

For the first three months of 2019 IHT receipts increased until they reached a peak at £537bn in March. But they have declined since.

Jonathan HowardAuthor: Jonathan Howard
01908 487531 #6

The rise of contested Wills – Part 2

Following on from last month’s issue, which discussed challenging the validity of a Will, this issue will touch on the second main reason individuals contest a Will. There are factors where an individual can challenge a valid Will to seek a greater share of the deceased’s estate, or if there was no Will and the statutory intestacy rules do not allow them to benefit from the deceased’s estate.

Cases for contentious probate has risen in previous years, High court statistics indicated that in 2015 there were 116 challenges and in 2016 this significantly increased to 158.

Certain relatives and dependants can challenge the division of a deceased estate by claiming under the Inheritance (Provision for Family and Dependants) Act 1975. The categories of claimants include:

• Spouses and civil partners of the deceased (as well as former spouses and civil partners)
• Anyone who, for the last two years for the deceased’s life, was living in the same household as them as their husband or wife
• A child of the deceased
• A child treated as a ‘child of the family’
• Any person who immediately prior to the death of the deceased was being maintained by them.

Research from Direct Line Life Insurance shows that one in four people would challenge the Will of a loved one if they were unhappy with the division of the estate. Although, while many cases have been successful, the courts have emphasized the fact that the legislation is not designed to compensate disappointed beneficiaries.

There are also statutory guidelines which the court must take into account when considering a claim. These are:

• The financial needs and resources of the beneficiaries and applicants
• Any obligations and responsibilities the deceased had towards any beneficiary or applicant
• The size and nature of the estate
• Any disability, either physical or mental, of any applicant or beneficiary and any other matter, including the conduct of the parties.

Spouses and civil partners have an exception on the above guidelines as, they do not need to show they are in financial need or were financially dependent on the deceased to successfully bring a claim. However, in claims by a spouse or civil partner the court will also have regard to the age of the applicant, the duration of the marriage or civil partnership, and the contribution made by the applicant to the welfare of the family of the deceased.

The first contentious probate claim under the Inheritance (Provision for Family and Dependants) Act 1975 to reach the Supreme Court in 2017 was Ilott v Mitson and others (2015). In this case it was an estranged adult daughter who claimed for a financial provision against her mother’s estate. It should be noted that the deceased intentionally excluded her daughter from benefitting under the Will and left her entire estate to three named charities.

There were several appeals to the High Court and Court of Appeal who increased the amount awarded, but this was reversed by the Supreme Court, who reinstated the original award of £50,000. The court allowed this award as the daughter could demonstrate a financial need and this sum constituted approximately 10 per cent of the total value of the estate. This case shows the reluctance to overturn the express wishes of a deceased person.

Unfortunately, it is impossible to make a Will immune to challenge. However professionally drafted Wills can stand up to scrutiny better than ‘homemade’ ones which are an easy target for claimants.

The drafting of a letter of wishes can also help to explain why a Will has been drafted to include certain people and will provide for strong evidence if a Will is disputed. The best way to avoid a potential claim is to be open with family members as to the contents of the Will and exactly how the estate is to be distributed. Many people can be hurt and surprised by the contents of a Will and therefore it is advantageous to discuss it with beneficiaries and any individuals that believe they’re going to inherit. This could help to see off any disputes before they happen.

Author: Beth Mills
01908 487531 #5