Mike Morrison looks at the recent Staveley case which could highlight issues for those wishing to consolidate pensions in the run up to retirement
Many pension schemes are written under trust, which means that upon death any funds payable fall outside of the member's estate. As a result, any death benefits distributed from the pension will not be subject to inheritance tax (IHT).
A potential pitfall exists whereby a client dies within two years of making a pension transfer from one scheme to another having known they were in serious ill-health at the time of the transfer.
In these cases, HMRC has taken the view that a transfer from one scheme to another is a 'transfer of value' under section 3(1) of the Inheritance Tax Act 1984. In other words, the value of their estate has decreased, thus reducing the amount of IHT that is potentially payable.
HMRC's (perhaps somewhat curious) reasoning is that the member had the choice to transfer their pension rights to a scheme under which the estate would have been entitled to the death benefits.
By choosing to transfer the pension rights to a scheme whereby the death benefits are distributed at the scheme administrator's discretion, the member has effectively brought the pension rights into their estate and then moved them out again.
There is, however, an exemption in section 10 of the 1984 act. This states that if the transfer was not intended to confer a gratuitous benefit on any person, it will not be a transfer of value. HMRC's position is that if the member was in ill health and the intention was to benefit others, then the exemption will not apply if the member dies within two years of the transfer.
In such circumstances HMRC assesses the transfer of value made by a client in ill health within two years of death as the difference between the open market value of the transferor's rights before and after the transfer; and as we are talking about a loss to the member's estate due to a pension transfer, the IHT spousal exemption available for property that would then comprise a spouse's estate would not be available.
There has long been a degree of uncertainty on the application of this piece of legislation and it was not altogether surprising that the Revenue was challenged.
The case - Parry and Others v HMRC - addressed the issue of whether a transfer by a member, made knowingly when in ill-health and when the member died shortly after, could be considered a transfer of value.
Mrs Staveley (Mr Parry was an executor) was a member of an occupational pension scheme where the principal employer had been set up with her husband. Following an acrimonious divorce, Mrs Staveley transferred her pension rights from the occupational scheme into a Section 32 policy. The scheme had been overfunded, and the terms of the Section 32 stipulated that any policy surplus could be refunded to the employer.
Mrs Staveley was very keen that her ex-husband/business did not benefit from her pension. One way to do this was to transfer the Section 32 to a personal pension. At the time immediately following the divorce, the rules meant a 10-year wait for such a transfer. The rules changed in 2006, and she made a transfer in November of that year to a personal pension. Unfortunately Mrs Staveley had developed cancer in 2004, and died in December 2006, just a few weeks after the transfer.
The legal arguments
HMRC assessed the pension transfer as a transfer in value for IHT purposes and pointed out that the death benefits under the Section 32 would have been payable to Mrs Staveley's estate (no trust or discretion). Yet under the personal pension they would have been paid out subject to the scheme administrator's discretion, i.e. she moved the funds from an IHT environment to a non-IHT environment.
HMRC put forward two arguments: (1) The purpose of the transfer was for IHT planning. (2) The intention was to confer a gratuitous benefit on to her two sons who had been named in the expression of wish.
The tribunal did not agree as the evidence suggested that Mrs Staveley's motivation behind the transfer was to ensure no refund got back to her ex-husband - IHT planning had never been suggested.
On the gratuitous benefit claim, it was argued that her sons were already the beneficiaries under her will and would have received the death benefits anyway, therefore there was no gratuitous benefit - it was a benefit to which they were already 'entitled'. The tribunal noted that the transfer of funds from an IHT environment to an IHT-free environment did confer a benefit on Mrs Staveley's sons, insofar as they could receive the funds without any deduction for IHT. However, they concluded that the conferring of an IHT benefit was not Mrs Staveley's intention.
HMRC disagreed and appealed to the Upper Tax Tribunal. The appeal was heard in December 2016 where the Upper Tax Tribunal agreed with the original decision.
HMRC still has the right to appeal but this could be an important decision on one of those matters that have proved a hindrance to those looking to consolidate pensions just before retirement. For now, I think we still need to proceed with caution.
Mike Morrison is head of platform technical at AJ Bell
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