Things to think about - considering chattels when tax planning
A solicitor’s view
The use of lease-back and lease carve-out schemes in respect of land is well established. However, when it comes to estate planning, lease carve-out schemes for chattels can often be overlooked. Such schemes, though, adopted in line with a suitable trust, can provide a useful and flexible means of achieving a potentially significant inheritance tax (IHT) reduction.
Following Ingram,1 and the subsequent steps taken by HMRC to deter people from entering into such schemes for the avoidance of IHT (for example, the introduction of the pre-owned assets (POA) tax), such schemes have been regarded more warily. Even now, there is some uncertainty about their eventual success from an IHT perspective, even where an appropriate market rent or POA tax is being paid.
Ultimately, if a scheme is found to be unsuccessful for IHT mitigation, then the value of the property will fall back into the donor’s estate (any POA tax will be refunded by HMRC).
Although HMRC continues to challenge these types of schemes in relation to land, the approach is still perfectly safe in relation to chattels (something that is perhaps overlooked by advisors). This is because chattels are not caught within the scope of the legislation relating to gifts with reservation of benefit.2
Accordingly, where a donor owns a valuable antique or artwork, it is important to be aware of this option. Provided the donor is happy to pay any capital gains tax (CGT) on the disposal, together with the ongoing POA tax, it is an effective way of reducing their estate for IHT purposes.
Some finer points
As with lease-back arrangements over land, it is prudent to ensure the donor is responsible for insurance and other costs incurred in looking after and being in possession of the asset, such as regular valuations, not forgetting that such expenses are also deductible for tax purposes. It would also be prudent to ensure standard terms for the lease over chattels are included so as to be sure that any commercial points have been considered.
As to what would be the most appropriate vehicle for giving effect to such a scheme, nothing is particularly prescribed. The simplest structure would be a gift to an individual subject to the lease. However, where the value of the chattel in question is below the nil-rate band, a discretionary trust will offer maximum flexibility. Naturally, a letter of wishes could sit behind the trust and provide the trustees with guidance on the client’s overall intentions with respect to beneficiaries, and prevent them from having to commit to a gift of the chattels to a named person at the outset. In addition, use of a trust creates a layer between the original donor and the ultimate beneficiaries, which can be useful in some circumstances.
From then on, the administration of the trust, and the chattels within it, would be governed by the same rules as apply to the holding of any other assets. It will be important to ensure that appropriate paper records are in place with respect to insurance, regular valuations and any record of an agreement between the lessor and lessee/donor regarding the obligations for maintenance of the chattels in question.
It will then be important to ensure the usual steps are considered with respect to the other tax and compliance issues faced by the trust in the future.
Art may be a wasting asset
Although not breaking news, it would be remiss not to mention that art can be a wasting asset.
In March 2014, the Court of Appeal confirmed that a painting known as Omai (right), by Sir Joshua Reynolds, was a wasting asset for CGT purposes. The painting had been in the Howard family since 1796 and, since 1950, had been loaned by Lord Howard of Henderskelfe to Castle Howard Estate Ltd. The company used it permanently in its trade; it was exhibited at Castle Howard ‘as part of the trade of opening the house to the public’.3 Lord Howard of Henderskelfe died in 1984 and the executors of his estate decided to sell the painting in 2001. Unsurprisingly, the disposal crystallised a significant capital gain. However, while the painting is clearly not a wasting asset by any usual measure, it was found to fall within the relevant definition at s45 Taxation of Chargeable Gains Act 1992.
The decision may benefit owners of high-value artwork or antiques where such heritage assets are held within their estates and there are homes or grounds in which they can display the items to the public. Without these conditions, it may be less easy to benefit from this decision; however, its applicability should be considered carefully before being dismissed out of hand.
A fine-art valuer’s view
As Jacqui indicates, for a lease-back scheme to work effectively, it is essential that a professional valuer is instructed to ensure the key requirements are met, as follows.
There must be a written valuation of the assets at the date of the transfer, and valuers should be instructed by each party, so that they are independently and professionally advised.
There must be a professional valuation carried out for the rent payable, such that the rent paid can be defended. The difficulty with chattels is that there is not much of a rental market to which expert valuers can refer. In these cases, HMRC has advised that the rental rate is unlikely to be challenged if the taxpayer can demonstrate that it resulted from a bargain negotiated at arm’s length by parties who were independently advised by professional valuers.4 HMRC’s experience is that 0.75 to 1 per cent of market value for rental purposes each year is an informal way of resolving the issue.
However, this could result in an unrealistic rent for a particularly valuable item. It is, therefore, sensible to consider different levels of rent for some categories of chattels. For example, items such as furniture or table silver, which have a higher utility value, may command a proportionately higher level of rent. In contrast, less common rentable items, such as high-value pictures or sculptures, may achieve a lower rent, although an exception might be contemporary art, which has a more established rental market. Vintage cars might also command a higher rent, as there is a strong market for hiring them.
Valuations should remain current, preferably being updated every five years, as the values of different categories can vary considerably over this period. For example, the global index of contemporary art prices has risen by over 70 per cent over the decade leading up to 2014.5 Of the top-ten auction results achieved in 2014, eight of the items came from the ‘post-war and contemporary’ category, revealing its strength compared to the more traditional categories of ‘old masters’, ‘impressionist’ and ‘modern’, which dominated the auction rooms in the 1980s and 1990s.6 While clients may not always be in possession of multi-million-pound items, it is important to recognise that prices achieved at all levels of the market usually reflect the trends occurring at the top.
Conversely, another dramatic trend over the past decade has been the decline in values for antique furniture. As Roland Arkell reported in the Antiques Trade Gazette earlier this year, the Antique Collectors’ Club’s Annual Furniture Index (AFI), based on a blend of retail and auction prices for 1,400 typical (rather than exceptional) items pictured in John Andrews’ book British Antique Furniture, fell by 4 per cent last year.7
The past decade has seen the AFI in steady decline, including record falls of 7 per cent in 2009 and 8 per cent in 2010 – contrast that with the gains seen on the stock exchange and in the housing market. A valuation of antique furniture must, therefore, be kept current to reflect changes in the market, and to avoid paying too much rent for items that have fallen in value.
Jewellery is another area of the market that has seen spectacular growth over the past decade. Current market conditions for fine-quality jewellery – most specifically, signed period pieces, fine-coloured gemstones, diamonds and natural pearls – have never been stronger. Of all these categories, diamonds are the most commercially important gem material, with the global market driving up prices.
- 1. Ingram and Another v Commissioners of Inland Revenue  UKHL 47
- 2. Section 102A Finance Act 1986
- 3. Ann Stanyer, ‘Painting or plant?’, STEP Journal, volume 22, issue 4, page 78
- 4. A letter from HMRC to the Law Society, 18 May 1987
- 5. Artprice, 2013/2014 Contemporary Art Market Report
- 6. Artprice, The Top Ten Hammer Prices of 2014
- 7. www.antiquestradegazette.com/news/2015/feb/04/mahogany-holds-steady-as-oak-declines
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