Finance Bill

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Mr. Burnett: I shall refer to one of the points made by the hon. Member for Buckingham. The brief that I have came from the Law Society, which seems to welcome the bulk of the clause. It clears up confusion, and the revenue law committee of the Law Society, on which I had the honour to serve for some 12 years, is concerned about potentially exempt transfers which fall into account because of the death of a person not, as the hon. Gentleman said, before the date, but after 17 April 2002. The Melville decision effectively included those trust powers—powers of appointment and so on—in the definition and held that they were property, but the Inland Revenue's capital taxes office did not hold that view, nor did the tax profession.

This welcome clause reverses that decision and we are back to where we started, except, as the Law Society told me, for this one particular point. I would welcome the Financial Secretary's comments on clause 116(6) and would like to know whether the Government are prepared to amend the clause to cover the anomaly when a potentially exempt transfer becomes chargeable by reason of the death of any person on or after 17 April 2002.

Ruth Kelly: The clause serves two purposes. First, it blocks a tax avoidance scheme, which was found to work in a recent court case, as the hon. Member for Buckingham rightly said. That in itself would be sufficient reason to take action in the Bill, but it also responds to widespread representations from tax advisers that the court's decision had an unexpected and unwelcome consequence for their clients, which needs to be reversed. It is unusual for tax advisers to come to us and say, ''Please block a tax avoidance loophole'', but that is what happened in this case. They took the view, and we agreed, that the court's decision had thrown up a fundamental structural weakness in the way that the current inheritance tax legislation deals with trusts and the powers over them.

It turns out that the powers work in a way that the designers of inheritance tax never intended, which the vast majority of taxpayers and their advisers had never

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thought to be the case when they arranged their affairs. Very briefly, the court found that power over trusts, such as the power to direct who should receive the property, or to have the trust broken up, was itself valuable property for inheritance tax purposes in the hands of the holder. That value is in addition to the value of the trust property itself, which has always been taxable in the various ways set out in the inheritance tax legislation, which were previously thought to be the only ways that trusts and their properties came into the reckoning.

Confirmation of this new understanding was welcome news to the taxpayer using the particular tax avoidance scheme that had been created to minimise his or her tax liabilities. However, it was very unwelcome news across a much wider class of cases when holders of powers found that they suddenly owned highly valuable property that was potentially subject to inheritance tax. Previously, those powers had been disregarded for inheritance tax purposes. The result in some cases is that the value of trust property may turn out to be taxable twice over, and more generally that essentially innocent financial arrangements have suddenly gone badly wrong in ways that the designers of the legislation never intended and which may be difficult at best to unscramble. We agree with the representations we have had that that needs to be corrected, so that powers over trusts are disregarded, as originally intended.

I hope to deal with some of the specific points raised by hon. Members. Let me start with the points made by the hon. Member for Buckingham, who has cited concerns put forward by the Institute of Chartered Accountants. The institute was concerned that trusts could be caught by the anti-avoidance provisions simply because of innocent reorganisation. The clause says that powers over trusts should not count as property for inheritance tax purposes. If abused, that would create scope to make valuable assets disappear for inheritance tax purposes. We know from experience, even if it were not obvious, that we need effective protection against such avoidance, and because there is no single structure, and we have to guard against it, it has to be written in fairly general terms.

It is said that innocent reconstructions of existing trust arrangements could fall foul of the provisions if people get a new power as part of a larger deal. It is certainly the case that any reconstructions involving new powers will have to take account of the constraints of the new anti-avoidance provisions. I do not apologise to the Committee for that. Even if such transactions are innocent, they are certainly not everyday events, nor in any way straightforward. Even before the introduction of clause 116, they inevitably involved very large funds, and skilled advisers already have tax considerations at the forefront of their minds. I believe that they can steer their way around any tax issues that arise from clause 116, and I have not seen any detailed case in which they would not be able to do so. I make the commitment to the Committee that, if such a case does emerge, we will be willing to consider it.

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The hon. Member for Buckingham also asked for a general justification for the provisions in new section 55A. Not for the first time, the detailed scrutiny that the whole area has had during the course of the litigation shows that it would simply not be safe to return to the original understanding of the law with nothing else said. Closing one loophole would make scope to exploit a new one along lines that were outlined only too intelligently during the course of the case. We have added an anti-avoidance provision to new section 55A of the Inheritance Tax Act 1984 to cover the artificial case for people with tax avoidance in mind by the use of a power that we created for that purpose. We do not think that people will do that for non-tax reasons, and we think it is right to put a clear deterrent in place so that people do not do so with avoidance in mind.

The hon. Gentleman also asked why spouse exemptions are included in new section 55A. The answer is that transactions caught by new section 55A are likely to involve avoidance whether or not a spouse is involved.

The hon. Members for Torridge and West Devon and for Buckingham mentioned pre-Budget transactions. We do not encourage retrospective legislation or like to see it in place, even when it is wholly relieving, as it is here. The background to this legislation was a court decision that was unwelcome news to the Inland Revenue, just as much as it may have turned out to be unwelcome news for taxpayers. The risk of such unpleasant surprises is something that we have to take when we are involved in a matter as relatively complex as estate planning using trusts.

Mr. Burnett: The Government are right to have made the amendments. It is a feature of inheritance tax that there is a regime of potentially exempt transfers. When those transfers fall into charged inheritance tax, as some of them will within seven years of 17 April this year, surely the same rules should apply to those potentially exempt transfers as apply to all matters from 17 April. The same rule should apply to each.

Ruth Kelly: If the hon. Gentleman lets me continue the point that I was making, he will hear me say that I believe that the risk of unpleasant surprises must be taken on board when embarking on such complex

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estate planning using trusts. In the present case, we decided that it made practical sense to reverse the unwelcome side-effects in a defined class of cases—essentially, people who are just sitting there with unused power in their possession, which would be taxable apart from clause 116, simply because the holder had died.

In practice, for example, the holder might have forgotten that they had such power, or never really been aware of it. It could have been buried away in fairly routine life insurance policies, for example, or set up in trust form. We were also conscious that there were other potential losers from the court's decision, not covered by this degree of retrospection. However, there are cases where the holder has chosen to do something with their power and so created a potentially exempt transfer, which has then become chargeable because of their death.

A fine judgment has to be made, but we think that when people choose to make transfers in their lifetime, it is up to them and their advisers to judge the risks and to provide for the consequences. On balance, I do not think that it would be right to stretch the retrospection further.

The arguments for reversing the effects of the court decision have been pressed on us by the representative bodies. We agreed that the case for the clause was strong. I therefore recommend it to the Committee.

Mr. Burnett: I am grateful to the Financial Secretary for her explanation, but she used the expression that it is up to people who make the transactions to judge the risks. My point is that they cannot have judged the risk because they did not know the risk. Everyone, including the Revenue, thought that the law was entirely different from what the Melville case upheld. It seems to me that it would be fair and proper to put all parties in the same position—that in which they thought the law put them at the start.

Question put and agreed to.

Clause 116 ordered to stand part of the Bill.

Further consideration adjourned.—[Angela Smith.]

Adjourned accordingly at one minute to Seven o'clock till Thursday 20 June at half-past Nine o'clock.

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The following Members attended the Committee:
Gale, Mr. Roger (Chairman)
Bercow, Mr.
Burnett, Mr.
Chope, Mr.
Cruddas, Jon
Cunningham, Mr. Jim
Davey, Mr. Edward
Field, Mr. Mark
Flight, Mr.
Grayling, Chris
Harris, Mr. Tom
Healey, John

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Jack, Mr.
Kelly, Ruth
Luff, Mr.
Luke, Mr.
McKechin, Ann
Pond, Mr.
Primarolo, Dawn
Ryan, Joan
Smith, Angela
Southworth, Helen
Sutcliffe, Mr.
Wright, David

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