Home Loan Scheme

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A briefing on Home Loan tax avoidance Schemes (HLS).

The first HLS case was taken to the tribunal in 2019. In John Leonard McNeill Shelford as Trustee of the Herbert Life Interest Trust Settlement & Ors v HMRC [2019] TC7549, the First Tier Tribunal found that the home loan scheme in question was a void transaction with the assets remaining in his estate on death. It involved the sale of the taxpayer's home to a trust in return for a loan. The loan was then gifted to his children, whilst he remained living in the home until death. 

In dismissing the appeal the FTT found:

  • The terms of the loan and sale agreements were such that the consideration due for the house was not discharged. This was the SDLT avoidance part of the transaction.
    • This, and the fact that the sale agreement for the house did not meet the property law requirements for a valid transfer due to its interaction with the loan agreement, made the sale agreement void and so the house formed part of Mr Herbert’s estate on his death.
    • There was never any intention for the terms of the agreements to be honoured.
  • As a result, the gift to the children made under the Deed of Assignment was also void and on Mr Herbert's death the house did not form part of the settled estate.
  • In addition, as he did not dispose of the house, he would not have had any liability to Pre-Owned Assets Tax (POAT), nor to any capital gains tax on the purported sale of the house to the Trustees. HMRC IHT determinations had to be varied to reflect this, which was for the parties to agree upon, including any entitlement any refunds of POAT and Capital Gains Tax paid by Mr Herbert.

Since these conclusions rested on property law only, the judge went on to examine the IHT analysis in the event of an appeal, on the basis that there was a valid sale of the house to the trustees.

He concluded that:

  • The house would have formed part of Mr Herbert’s death estate as his ability to dispose of it freely was restricted by the agreement to sell it to the trustees.
  • However it also formed part of the settled property, also in his estate due to the life interest. The trust had a liability of £1.4m which the executors were entitled to deduct in calculating the total value of the settled property within his estate.

This meant the property value at death would be double-counted, to which the judge commented:

“This serves as a warning that the implementation of tax avoidance schemes can sometimes have the consequence of the participants paying more tax than if they had done nothing: if you play with fire, do not be surprised if your fingers are burnt.”

An FTT decision is, of course, not a binding precedent so we must wait to see if it is appealed to the Upper Tribunal.

HMRC have reached a number of settlements. The Institute of Chartered Accountants of England and Wales (ICAEW) have met with HMRC to try and obtain clarification for those wanting to avoid litigation as to how these settlements are agreed. HMRC have issued guidance in their IHT manual (IHTM44120) on unwinding such a scheme.

Background

  • HLS were a strategy to save inheritance tax (IHT) on the passing of a family home.  
  • A scheme involved selling properties into a trust whilst also creating a loan which would be set against the value of the home on the death of the last settlor.
  • Stamp duty, capital gains tax and inheritance tax charges were avoided and the owners could continue to live in the property.
  • The schemes also appeared to avoid the gifts with reservation provisions (GWR).
  • To counter the home loan schemes and the apparent failure of the GWR provisions, the pre-owned assets tax (POAT) was introduced in FA2004.  
  • This had a retrospective effect in that it applied to pre-existing arrangements. It imposed an income tax charge on individuals who continued to receive a benefit from the properties they have disposed of, for example, by continuing to live in them.  
  • By paying the POAT the asset was kept out of the IHT estate.

There appear to have been very few schemes established since 2003, but many which continue to exist were established before then.

What's the position now?

  • HMRC have previously developed a number of litigation strategies to challenge the HLS schemes. They sought to bring either the loan or the house, or both, back within the GWR provisions.  
  • As a result, executors and trustees have been challenged to pay IHT on the death of the settlor. It creates potential double charges as described by the judge in the Herbert case above.
  • Although it may be appealed, the Herbert litigation has been successful. We would expect HMRC to see the scheme as having failed and those who have paid the POAT charge in order to avoid IHT will find themselves with an IHT charge anyway.

Settling with HMRC

It remains to be seen what action HMRC will take following the case, particularly for anyone who may be in the middle of settlement negotiations. Prior to the Herbert case HMRC had indicated the following:

  • Where trustees and executors seek to settle, HMRC will not look to charge more IHT than would have been payable had the property remained in the IHT estate, so there will be no double charges.

  • In the event that a tribunal decision increases the charge, HMRC will abide by this but only for those who have agreed to settle. 

  • If executors settle by bringing the value of the house back into the death estate, a refund of the POAT paid will be due back to the estate and credit for the tax paid will be given against the IHT due. This means that executors do not have to actually claim the POAT back.

  • If one settlor has died but the other still survives, a reservation of benefit arises in each half of the house. Half the value will be taxed on the first spouse and half on the second. No joint property discount will be given.

Useful guides

IHT: Pre-owned asset tax (POAT)
What is the pre-owned asset tax? When does it apply? Are there any exclusions or exemptions?

IHT: estate planning checklist
This basic checklist covers some of the essential planning points that taxpayers should know when planning for their estate and inheritance tax.

UK Trusts
This guide deals with the taxation of UK trusts. 

External link:

HMRC Inheritance Tax Manual (IHTM 44120)