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This article looks at one of the practical effects of the new IHT provisions in Finance Bill 2013:
- an increase in spouse exemption for transfers to non-UK domiciled spouses and civil partners
Throughout this article, references to spouses include civil partners; the term ‘partner’ means both a member of a married couple and a registered civil partnership.
The lifetime exemption for transfers from UK domiciled spouses and civil partners to their non-UK domiciled partners has been capped at £55,000 since 1983. Responding to criticism from the European Commission that the low threshold was discriminatory, Finance Bill 2013 introduces a welcome increase in the limit. With effect from 6 April 2013, it is increased to £325,000 and will thereafter match the level of the nil rate band. As a result, a UK domiciled spouse will be able to transfer twice the value of the nil rate band to his non-UK domiciled partner before incurring a tax liability.
IHTA 1984 s18 (2)
Remember, though, that the non-domiciled spouse exemption is a lifetime limit, whereas the nil rate band is refreshed every seven years. For lifetime gifts that exceed the spouse exemption, the balance is initially a potentially exempt transfer (PET) which only becomes chargeable if the donor dies within seven years. Example 1 illustrates how this works in practice.
For gifts made before 6 April 2013, the old limit of £55,000 still applies and can remain relevant for deaths and transfers after 6 April 2013. A gift in 2012 of £200,000 will have been £55,000 spouse exempt and £145,000 PET. If the donor dies in 2014, the PET is taken into account in the death estate even though the value of the 2012 gift was within the new level of spouse exemption. The additional exemption will be set against the death estate and not the gift. This could affect how the burden of inheritance tax is distributed where there are other beneficiaries of the estate.
In many smaller estates, the new limit will be sufficient to transfer the UK domiciled partner's estate without using the nil rate band. The unused NRB can be transferred to the non-UK domiciled partner in the usual way. See Example 2.
Michael is domiciled in England and married to Lei, who is domiciled in China. In April 2013 Michael gives Lei investments worth £700,000. Of the total, £325,000 is exempt under the non-domiciled spouse exemp-tion and the balance of £375,000 is a PET. Michael dies two years later in 2015. The whole of his estate, valued at £800,000 passes to his wife. The nil rate band (NRB) of £325,000 is allocated to the failed PET leaving the balance of £50,000 plus the £800,000 estate chargeable to inheritance tax.
If, alternatively, Michael dies eight years later (and assuming that the nil rate band is still frozen), £375,000 of the initial gift falls out of account because it was a PET but the spouse exempt portion is still on the clock. No further spouse exemption is due. The chargeable estate is £800,000- less the NRB £325,000 = leaving £475,000 in charge to tax.
Helga, domiciled in Austria, is in a civil partnership with Karen domiciled in England. Karen's only asset is a half share in their jointly owned property, valued at £500,000. When Karen dies her half share uses £250,000 of the non-domiciled spouse exemption. None of her nil rate band is used so the full amount is transferred to Helga. On Helga’s death, assuming she has sufficient UK assets, she will benefit from both nil rate bands -a total of £650,000- but the unused portion of the non-domiciled spouse exemption is wasted.
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