Reduced rate for gifts to charity: the charitable giving condition or 10% test: example with two estate components, a lifetime cumulative total and where grossing up and interaction apply
Where both grossing up and interaction apply, the value of any specific gifts left free of tax will affect the calculation of the baseline and since interaction will reduce the value of those gifts before they are grossed up, it is necessary to go through the full set of calculations to arrive at both the baseline and the donated amount.
Roland died on 15 September 2012, leaving an estate valued at £1.5m after deduction of liabilities. His cumulative total of lifetime transfers is £200,000. His Will leaves legacies of
£300,000 to his son, free of tax,
Unlisted shares to his daughter, valued at £200,000 that qualify for 100% business relief, and
£35,000 to the Scout Association.
The residue is left as to 10% to the National Trust and the remainder to his children equally. It includes a land that qualifies for 100% agricultural relief valued at £150,000. He is entitled to an interest in possession under his wife’s Will valued at £700,000 which passes to his children absolutely.
The calculation taking both interaction and grossing up (IHTM26158) into account, is as follows.
Interaction stage 1
Calculate the value transferred after relief
|Gross value of free estate||£1,500,000|
|Less business relief on shares||-£200,000|
|agricultural relief on land||-£150,000|
Interaction stage 2
There is one gift of relievable property; being the gift of shares to the daughter; this is taken at its value after relief at 100% or £0.
Interaction stage 3
There is other relievable property (the land), so the specific gift to the son must be reduced by the IHTA84/S39(4) fraction, although or the purposes of calculating the donated amount, the gift to the Scout Association remains at full value (IHTM45031). The fraction is based solely on the value of the Free Estate and ignores the cumulative total and settled property.
The fraction (IHTM26103) is
(£1,150,000 - nil) ÷ (£1,500,000 - £200,000)
So the value of gifts is reduced to:
Charity: £35,000 × (£1,150,000 ÷ £1,300,000) = 30,962
Son: £300,000 × (£1,150,000 ÷ £1,300,000) = £265,385
Interaction stage 4
The gift to the son is free of tax and so the reduced value of the gift must be grossed up. As these calculations are being performed to see whether the 10% test is being met, you should use the reduced rate grossing calculator (IHTM45030). The lifetime cumulative total is taken into account; but the settled property is ignored.
Grossing up stage 1
The legacy of £265,385 is grossed up at its own rate. The available nil-rate band is £125,000. The calculation is
|Net value of legacy||£265,385|
|Less available nil-rate band||-£125,000|
|Excess over nil-rate band||£140,385|
|Gross up at (100 ÷ 64)||£219,352|
|Add back nil-rate band||£125,000|
|Initial grossed up value||£344,351|
Grossing up stage 2
Initial determination of the chargeable part of the estate
|Value of free estate after relief||£1,150,000|
|Less grossed up gift to son||-£344,351|
|unlisted shares to daughter|
|10% of residue is exempt||-£77,469|
Initial chargeable estate is £697,218 + £344,351 = £1 , 0 4 1 , 5 6 9.
Grossing up stage 3
The son’s legacy at its reduced value of £265,385 is grossed up again at the rate appropriate to the initial chargeable estate taking the cumulative total of lifetime transfers into account and tax due at 36%.
|Initial chargeable estate||£1,041,569|
|Tax on initial estate (£1,041,569 - £125,000)@36%||£329,965|
|Gross up legacy at estate rate (£265,385 x (£1,041,569 ÷ (£1,041,569 9 £328,965))||£388,442|
Grossing up stage 4 & Interaction stage 5
Calculate the residue and chargeable estate
|Value of free estate after relief||£1,050,000|
|Less gift to son||-£388,442|
|gift to charity||-£30,962|
|Exempt share of residue (10%)||£73,060|
The donated amount, after interaction, is revised to £73,060 + £35,000 = £108,060
The calculation of the baseline is then
|Estate on death||£1,500,000|
|Chargeable transfer||£1,041,940||(step 1)|
|Less apportioned nil-rate band||-£74,769|
|Add back legacy to charity||£108,060|
|Baseline amount||£1,075,231||(step 3)|
The charitable giving condition (IHTM45002) or 10% test requires that the donated amount is at least 10% of the baseline amount or £107,523. At £108,060, the donated amount meets this test, so the estate qualifies for the reduced rate of 36%.
If the estate fails to qualify for the reduced rate, you should recalculate the position from scratch using the full rate grossing up calculator and reducing both chargeable and exempt specific legacies.