Lifetime transfers: conditions for normal out of income exemption: out of income
The second condition (IHTM14231) for exemption is that the transferor should have made the gift out of their income. So a gift of capital assets such as jewellery or securities does not qualify unless it was specifically purchased by the donor from income with the intention of making the gift.
Income is not defined in the IHTA84 but should be determined for each year in accordance with normal accountancy rules. It is not necessarily the same as income for income tax purposes. Income is the net income after payment of income tax.
It is usually clear whether payments received are income in nature. Common sources of income are employment and self-employment, rents from property, pensions, interest and dividends. But, it is possible that payments received on a regular basis may appear to be income but are in fact capital in nature. An example would be receipts from a discounted gift scheme (IHTM20424).
You should initially look at the income of the year in which gifts were made to see if there was enough income available to make the gifts, before considering earlier years. Income from earlier years does not retain its character as income indefinitely. At some point it becomes capital but there are no hard and fast rules about when this point is. If there is no evidence to the contrary, we consider that income becomes capital after a period of two years. Evidence to the contrary could impact either way as income:
- may immediately be invested in a capital product and become capital or
- may be retained as income for more than two years with a specific purpose in mind.
Each case will depend on its own facts but, in general, the longer the period of accumulation, the more likely it is that the income has become capital. However, this is not the only factor to consider. You will also need to look at how the accumulation has been made and the transferor’s actions (or inaction) in accumulating it.
Often the taxpayer will try and claim that the exemption applies on gifts made out of several years of accumulated income, which you should deny. But this is a contentious area and you should seek the advice of Technical before becoming entrenched.
If a gift is made out of a current account you only need to check that the gift could have been made out of income. You do not need to match the gift to specific money in the account.
The capital element of a purchased life annuity within the meaning of ITTOIA 2005/S423 (IHTM20631) purchased on or after 13 November 1974 is not regarded as part of the transferor’s income for the purposes of the exemption in accordance with IHTA84/S21(3).
A person may receive payments from insurance policies in a number of situations; on maturity, by full or part surrender of a policy, by regular withdrawals, by sale, assignment or loan. Some of these payments are chargeable to income tax but that does not make them income. Even if the payments are regular, the character of such payments is usually capital and they cannot be taken into account in calculating the income available to a transferor. A common situation is where a person takes annual withdrawals equal to 5% of the premium from a single premium policy.
If the taxpayer or agent argues that payments of this sort are income in nature, you should obtain all the relevant documents and refer the case to Technical.
The intention in including ‘taking one year with another’ in IHTA 1984/S21(1)(b) is to provide for the case where a person’s income fluctuates from year to year but overall they have enough income to make normal gifts and meet their standard of living on an ongoing basis. In these cases, you may need to look at the income and expenditure over a number of years to see if the income test is satisfied. Although income can be carried over from year to year in these circumstances, you should refer to Technical if the taxpayer wishes to carry forward more than two year’s income.
If there is a permanent change in the transferor’s level of income or expenditure, for example they start having to pay for care home fees, you should use your judgment in accepting or refusing the exemption in full or in part for continuing regular gifts.
Lifetime care plans
It is becoming increasingly popular for individuals to provide for the expense of nursing or residential care by purchasing a specially designed plan. These plans, which may be described as lifetime care plans or immediate care plans, are purchased with a single capital payment, in return for which the plan provider pays the care fees direct to the nursing home on a periodic basis.
Our view is that the payments by the plan provider are not income for the purposes of IHTA84/S21(1)(c) but are effectively a return of part of the capital originally provided by the purchaser. However, the nursing home fees are part of the deceased’s normal expenditure.
If the taxpayer claims that part of the payment represents income produced by the unused part of the premium while it is held by the plan provider, you should obtain the following before referring the case to Technical:
- a copy of the plan
- details of the original premium
- details of the payments made by the plan provider.
(This content has been withheld because of exemptions in the Freedom of Information Act 2000)