How their various sources of income will be treated by tax system Essay
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How their various sources of income will be treated by tax system:Mick:Income Tax;Royalties received of £1.2m will be termed as earned incomeInterest received from the £100,000 3%Exchequer stock will be apportioned for the tax year 2008/2009 and termed as savings income.The rent received for the tax year 2008/2009 will be treated as property business income as it is a long-term lease.
That is >50yearsBank interest of £13,000 received will be grossed up by (100/80) and charged under savings income. Tax credit of 20% will be givenThe house in Dartford will be treated under property business profit. The rent will be accounted for in an accrual basis. Any allowable expenditure will be deducted from the annual rent. A 10% of the total rent received of wear and tear allowance will be deducted.
Capital Gain Tax (CGT);The furnished holiday accommodation will be a business asset for CGT purpose (That is, it will attract a rollover/holdover reliefs and the business asset rate of taper relief.Inheritance Tax (IHT);Three Matisse paintings will be valued at £20m as free estateFerrari will be chargeable to IHT as free estate but the vintage will be exemptQuoted share of £2m will be valued under free estateFlat in New York worth $3m will be part of the free estateAll the bank accounts will be chargeable to IHT under free estatePersonal assets will be exempt from IHTInterest in possession trust (IIP) is exempt from IHT purposesBeneficiary of a family discretionary trust will be chargeable to IHT when the trustee has transfer the income or assets of the trust to Mick.Geraldine:Income Tax;£2m book royalties will be classified as earned income.$76,000 will be treated under dividend income and grossed up by (100/90). Tax credit of 10% will be given and a double taxation relief which is the lower of UK tax charged, and USA tax.
Dividend received from the UK shares will be grossed up by (100/90) and classified under dividend income.Rent received from the student friend of the nanny of £5,200 per annum will be charged to income tax under property business income.Capital Gain Tax;Gains arising from the disposal of UK shares will be subject to taper relief and higher tax rate of 40% charged to the gain.Inheritance Tax;House in New York will be exempt for IHTApartment in Los Angeles will be exempt from IHT.Shares located in the USA will be exempt from IHTBank account balance of £1m will be chargeable for IHT purposeCloths will be exempts but the car will be chargeable for IHT purpose2.HOW AND WHY MICK AND GERALDINE COULD FACE HIGH IHT BILL IF THEY DO NOTHING:How;Mick could face a high IHT bill when he dies without making any life time gift or transfer.
As he is domicile in the United Kingdom, all his assets both in the UK and abroad will be liable to IHT.For Geraldine, she will pay high IHT only from the tax year that she will be considered as deemed domicile in the UK. That’s when she has lived in the UK for 17 full years out of 20. Otherwise, if Geraldine dies before qualifying as a deemed domicile; only her UK base assets will be liable to IHT.
All her overseas assets will be exempt from IHT.Why;Mick will face high IHT bill because his the total value of his free estate worth more than the nil band rate of £312,000.The following assets of Mick will be classified under free estate (Matisse painting, Four Ferrari motor cars, quoted UK shares, Flat in New York and Bank account abroad).Any debt at death and reasonable funeral expenses will be deducted from the free estate value.The amount of the settlement in the IIP trust will be added to the free estate value to arrive at the total estate value.The nil band rate of £312,000 will be deducted from the total estate value to arrive at the value chargeable to IHT.Tax at 40% will be charged to the estate value chargeable to IHT.
As a result, a high IHT bill will be paid by Mick.In the case of Geraldine, she will pay lesser IHT as most of her assets are located overseas and she is not domicile or deemed domicile in the UK.She will also be entitled to a nil band rate of £312,000 deducted from her UK located assets to arrive at the total estate value chargeable to IHT.
Tax of 40% will be charged.3.WAYS TO REARRANGE THEIR AFFAIRS TO MITIGATE HIGH IHT:Potential exempt transfer (PET); Both Mick and Geraldine should transfer their assets to their 3 children.
This will be classified as a potential exempt transfer (PET).PETs never suffer tax when the transferor dies within 7 years of making the transfer.Therefore, if Mick and Geraldine stay alive after 7 years, then the transfer made to the children will be exempt from IHT at dead.Chargeable lifetime transfer (CLT); Mick and Geraldine should also make a gift into a discretionary trust. This can be described as a chargeable lifetime transfer (CLTs).
Where this is done, Tax became due at the time of the transfer, using lifetime rates (i.e. ½ * full rate) applicable at that time.The tax is payable by either Mick or Geraldine who ever makes the transfer unless the transferee agrees to be liable.Where Mick or Geraldine pays the tax, the tax is equal to (20/80 * chargeable value) where the chargeable value is treated as the net amount.Where the transferee pays the tax, the tax is equal to (20% * chargeable value) where the chargeable value is treated as the gross amount.
Domicile/Deemed domicile;As Geraldine is neither domiciled nor deemed domicile in the UK, all of Mick’s foreign assets should be transferred to Geraldine as they will not qualify for IHT purpose.This will be possible up to the tax year 2008/2009 as Geraldine will only be living the United Kingdom for 16 years. For the tax year 2009/2010, Geraldine will satisfy the deemed domicile rule as she will be living in the United Kingdom for 17 years.Care should be taken when transferring the assets to Geraldine as she also owns more assets.4.VALUATION OF ASSETS FOR IHT PURPOES:For life time transfers, the open market value (OMV) on the date of transfer is used.
For property held at death, the OMV of the value immediately before death except for life assurance policies maturing on death, when the proceeds figure is taken.The OMV of most of their assets will be determined by expert and professional valuators.In the case of quoted securities, the shares listed on the alternative investment market (AIM). Where is it a quoted security, the valuation basis is the lower of: the ¼ up price, and the mid-recorded bargain price?In valuing the estate when Mick and Geraldine cease to exist, quoted shares and stocks must be included on a cum-div or cum-int basis.If Mick and Geraldine died when the relevant shares or stocks are quoted ex-div or ex-int, the price must be adjusted to the cum-div/cum-int value by including the next dividend or interest payment due (net of 10% or 20% income tax at source respectively).
Where the Interest in possession trust (IIP) ceases on death of the life tenant (Mick), the full capital value of the settled property immediately before the cessation of the IIP is included in the deceased life tenant’s death.For overseas properties held by Mick, the value in accordance with appropriate rules used for UK properties, but converted into UK sterling at the rate which gives the lowest sterling equivalent value.5.CAPITAL GAIN TAX COMPUTATION FOR THE SALE OF SHARES:No of sharescostGain/Loss££July 2008 shares sold5,000Shares acquired since 5.4.98Proceeds30,000Cost = {(5,000/10,000)*30,000}-5,000-15,000Nil15,000Untapered gain15,000Assuming the UK shares are businessAssets for taper relief purpose.
Complete years of ownership of sharesby Geraldine is 3Taper relief = 75% (15000)-11,250Gain3,750March 2009 shares sold3,000Shares acquired since 5.4.98proceeds18,000Cost = {(3,000/10,000)*30,000}-3,000-9,000Nil9,000Untapered gain9,000complete years of ownership is 3Taper relief = 75% (9,000)-6,750Gain2,250Total Gain = (3,750 + 2,250)6,000Annual exemption Max6,000Gain0CGT on sale of cottage in Devon:££Disposal proceeds250,000Cost12,000index factor0.921Index cost11,052Indexed gain238,948Taper relief @ 75%179,211Gain59,737Annual exemption9,600Gain50,137CGT @ 40%20,054.80References:ACCA text book (June 2009): Advance taxation. Kaplan publishing Foulks Lynch: BerkshireACCA text book (June 2009): Business Taxation.
BPP publishing: LondonHM Revenue and Custom: Retrieved on 18/04/2009: http://www.hmrc.gov.uk/rates/cgt.htm, http://www.hmrc.gov.uk/rates/it.htm, http://www.hmrc.gov.uk/rates/inheritance.htm
