Techzone

The Supreme Court ruling in the long running ‘Staveley ‘ case has brought into question HMRC’s current approach when determining if IHT is due on a pension transfer made in ill-health.

The circumstances of this case are unique, but the judges’ comments could mean that HMRC decide to re-evaluate in general how they treat future pension transfers made in ill-health.  

What does this mean for pension transfer advice?

It clearly makes sense to ensure that clients are in the right pension for their circumstances long before health becomes an issue. Transfers made while in normal health will not give rise to an IHT charge.

Only pension transfers where someone transferred within two years of their death are captured on the IHT409 form. It is therefore far better to get pension affairs in order whilst clients are in good health rather than trying to rely on other mitigations.

What is HMRCs current practice?

HMRCs published view is that when a pension is transferred there is moment in time where the rights under the first scheme come to an end and the scheme member makes a fresh gift of the rights under the new scheme. This is on the basis that the member could have chosen a scheme where death benefits could have been payable to their estate. As a consequence of this practice, a higher level of IHT could be assessed on the deceased member’s estate.

However, within the context of the Staveley case, the courts declared that this interpretation, which was described as a ‘return to zero’ approach, was ‘wholly artificial’ when considering the issue of ‘gratuitous intent’ under s10 IHTA. Their view was that the ‘disposition’ or gift was the transfer of the funds directly from one pension scheme to another scheme. It remains to be seen if HMRC accept the same approach is taken with regards to valuing the transfer itself.

A recap of the ‘Staveley Case’

Mrs Staveley transferred her Section 32 buy-out plan to a personal pension while knowingly in ill-health and unfortunately died two months later. HMRC argued that the transfer constituted a gift of death benefits to her sons, at least in part. Her executors have now successfully argued that the main reason behind the transfer was to prevent her ex-husband benefiting from her pensions and that there was no gratuitous intent to improve the benefit her two children would receive.

The transfer in question was made in 2006, long before pension freedoms and also at a time when ‘omitting’ to access pension benefits on retirement could still result in an IHT charge.

Ultimately, the Court’s decision was that IHT was due by Mrs Staveley’s executors; not as a result of transferring her Section 32 Buy Out plan while it was known she was terminally ill, but instead because she omitted to take the benefits from it. These ‘omission to act’ rules ceased to apply to pension benefits from April 2011, but remain applicable to this case as the transfer took place in 2006.

What is the importance of this case on future transfers in ill-health?

It's important to remember that this ruling was based on the facts of the particular case and whether Mrs Staveley’s intention was to improve what her sons were to receive on her death. But there are important aspects from it which may have a bearing on the IHT treatment of future pension transfers in general. If HMRC intend to follow the judges‘ views and change their ‘return to zero‘ approach, there may be wider issues to consider:

1. Has there been a disposition, i.e. what has been gifted?
2. What is the transfer of value for IHT on the disposition, i.e., what is the loss to the estate?
3. And if there is a transfer of value, was there any gratuitous intent (as without this there is no IHT)? 

Scenario 1 - transfers from S32/RACs to DC pension

This was the scenario of the Staveley case. It was determined that the ‘disposition’, i.e. what was gifted, was the funds held in Mrs Staveley’s S32 to the personal pension.

In these circumstances, there is clearly a loss to the estate as the death benefits under Section 32 buy out plans and Retirement Annuity Contracts (RACs) form part of the estate unless placed in their own trust. Transferring these to a DC scheme means that the death benefits are now at the discretion of the scheme administrator and typically outside the estate for IHT.

Consequently, there is a transfer of value when these schemes are transferred to a DC pension and the loss to the estate will be broadly the value of the fund prior to transfer less the open market value of the rights held in the new scheme.

Only if it can be shown (such as with the Staveley case) that there was no gratuitous intent will it be free of IHT. In essence, there must be a clear overriding motive for doing the transfer other than improving the death benefits payable to beneficiaries.

Scenario 2 – transfers from a DC to a DC pension

Again, in these circumstances there is a disposition which is the transfer of funds from one pension scheme to another.

But unlike scenario 1, it's normally the case that a DC scheme has discretion over the appointment of death benefits, meaning the death benefits remain outside of the estate both before and after the transfer. If it's no longer the view that these return to the estate during the transfer process, it could be argued that there may be no loss to the estate and so it has no value for IHT.

Scenario 3 – transfers from a DB scheme to a DC pension

With a DB scheme, the member has a right to the pension at retirement but not their own identifiable pot of money. On death it is typically free of IHT and provides a survivors pension.

When a member transfers their DB pension to a DC scheme, the transferring scheme calculates a cash equivalent transfer value (CETV). If these in future are no longer treated as re-joining the estate during transfer, there may be no loss to the estate on transfer in respect to the CETV as this was never payable to the member or to their estate.

In the absence of fresh guidance from HMRC following the case and given the potentially large transfer values on offer, it's even more reason to ensure that individuals wishing to benefit from pension freedoms do so while they're in good health.

HMRCs next steps

The Staveley case has reached its ultimate conclusion and there is no further opportunity for appeal. We await updated guidance from HMRC on pension transfers and how they plan deal with transfers in ill-health and how those still subject to IHT are to be valued.

Future targeted anti-avoidance measures cannot be ruled out to prevent any perceived abuse.