The Upper Tribunal has recently given its decision in an interesting case concerning inheritance tax (“IHT”) and pension schemes.
The case turned on very specific facts, including importantly, that the pension scheme member in question, Mrs Staveley, died in 2006 so the relevant IHT legislation was that which was in force at the time. The legislation has since changed, as explained below, but many of the Tribunal’s comments (especially on the nature of a scheme administrator’s power to decide to whom to distribute death benefits) are particularly relevant to the current legal position.
The issue arose following Mrs Staveley’s decision during her lifetime to transfer her pension funds into a personal pension plan. On Mrs Staveley’s death, the administrator of the personal pension plan paid death benefits to her two sons in accordance with Mrs Staveley’s letter of wishes. HMRC argued that these steps brought the pension fund into Mrs Staveley’s estate for inheritance tax.
The case
In this case, the Upper Tribunal considered two issues:
- whether Mrs Staveley’s decision to transfer her benefits to a personal pension plan was a ‘transaction intended to confer a gratuitous benefit’ under s.3 and s.10 Inheritance Tax Act 1984 (“IHTA 1984”); and
- whether Mrs Staveley’s omission to draw on her pension funds under the personal pension plan during her lifetime was a transfer of value for inheritance tax purposes.
On the facts, the Tribunal found in favour of Mrs Staveley’s estate on both counts and no inheritance tax was due on the value of the pension fund.
In respect of point (1), the Tribunal found that one of Mrs Staveley’s key motives in making the transfer to a personal pension plan was to avoid the risk of her ex-husband becoming entitled to any of the pension fund. That Mrs Staveley’s sons stood to gain from death benefits under the personal pension plan was a side consideration (phrased by the court as ‘the other side of the coin’) as the sons would benefit under Mrs Staveley’s will in any event. The motive of removing the risk of the ex-husband benefiting was a significant factor in finding that the transaction was not intended to confer a gratuitous benefit on the sons.
Discretion as to distribution of death benefits
It was important in respect of point (2) that the administrator of the personal pension plan to which Mrs Staveley had transferred her funds had a discretion as to how to distribute the pension funds on her death. This broke the chain of causation between Mrs Staveley’s decision not to access the funds herself, and the transfer of death benefits to her sons in line with her letter of wishes. Had this not been the case and the administrator had been bound to transfer the fund to Mrs Staveley’s sons, or Mrs Staveley had a general power of appointment, the pension fund could have been within Mrs Staveley’s estate for inheritance tax purposes.
HMRC argued that the administrator’s power to decide to whom to distribute the death benefits was not a true discretion (bearing in mind Mrs Staveley’s expression of wishes that her sons should benefit). HMRC said that the administrator’s discretion was in fact mere administrative machinery and should be ignored so that Mrs Staveley’s omission to draw pension income was an act by which the estates of her sons were increased. The Tribunal disagreed and emphasised that the administrator had a genuine discretion, noting that the pension scheme documentation referred to this being the case and that Mrs Staveley’s letter of wishes did not bind the scheme administrator.
Current legislative position
Since Mrs Staveley’s death in 2006 there have been several amendments to the IHTA 1984 clarifying the inheritance tax position of pension funds, although it remains complex and there is no general exemption from inheritance tax for pensions. In 2011 a new section of the IHTA 1986 was introduced to expressly exclude rights under a registered pension scheme from falling into the definition of ‘transfer of value’. In 2016 the IHTA 1986 was amended so that it is not an ‘omission to exercise a right’ for inheritance tax purposes if a member does not draw on funds held in a flexi-access pension scheme during their lifetime so that the funds can pass to someone else on the member’s death.
No changes to the inheritance tax treatment of pension schemes are expected this year in the Finance Act 2017 or the Pension Schemes Bill 2017, but we can expect developments to continue in the longer term, and given the complex nature of this area we may see further test cases such as this in the courts.