Will planning in the era of the residence nil rate band

This is called the "residence nil rate band" (RNRB) and is given by an increase in the standard nil rate band available to the individual. Although the RNRB has also been referred to as the "main" residence nil rate band, this is incorrect. For a property to qualify under the RNRB legislation, it is sufficient for the property to have been a residence (i.e. not necessarily a main residence) of the deceased at some point.

Many people still remember the Tory manifesto promises to make estates up to £1million inheritance tax free for married couples and so perhaps unsurprisingly there are people who believe that as long as their estate is below £1million they have no IHT problem and so it does not matter what precise provisions are included in their Will. This, of course, is far from the truth although the RNRB addition is definitely welcome, especially given that the standard NRB has been frozen at £325,000 since 6 April 2009. This month we will look at the various typical Will planning strategies and check whether these are still valid having regard to the RNRB.  But first some basics.

How does the RNRB operate?

• The RNRB will only be available when a qualifying residential interest (broadly, an interest in property that has at some time during the period of ownership been occupied by the deceased as a residence) is 'closely inherited' (that is, inherited by lineal descendants or their spouses/civil partners).

• The RNRB is still available where an individual either downsized or ceased to have a residence at all (if, for example, they have moved into residential care). This additional amount of RNRB is known as the 'downsizing addition'.

• Although the RNRB applies to deaths occurring after 5 April 2017, the downsizing provisions apply to disposals of property on or after 8 July 2015.

• Lineal descendants include children, grandchildren and remoter issue, adopted children, step children and foster children. 

• The RNRB starts at £100,000 in tax year 2017/18 and will go up to a maximum of £175,000 for tax year 2020/21. Where the value of the estate (after deducting liabilities but before reliefs and exemptions) exceeds £2 million then, broadly, the RNRB will be reduced by £1 for every £2 excess value so that by 2020/21 there will be no RNRB available on first death if the net value of the deceased's estate exceeds £2.35 million.  

• Unused RNRB is transferable to a spouse in the same way as the standard NRB and will apply on the second death even when the first death took place before 6 April 2017.

It is important to note that the RNRB is not set against the legacy of the residential property but applies generally to the charge on the estate (i.e. it is not focused on the property so that there may still be a tax charge on it).

When is the RNRB not available?

The RNRB is not available to the following:

• People without children. For instance, two sisters living together and the property is inherited by the survivor - no RNRB. 
• People who rent a property and have chosen to invest their money, for example into an investment portfolio / let properties. 

Which Will trusts will allow the RNRB to apply?

Where Will trusts are concerned, the RNRB will only be available in the following cases: 

• a bare trust for a lineal descendant (or their spouse/civil partner)
• an IPDI trust for a lineal descendant (or their spouse/civil partner)
• a disabled person's trust for a lineal descendant (or their spouse/civil partner)
• an 18-to-25 trust
• a bereaved minor's trust (BMT)

Clearly, for those who wish to maximise the use of the RNRB it is important that the Will provisions ensure that the relevant legacies qualify and the scope is clearly limited. For example, if the property is left to a discretionary trust, the RNRB will not be available, even if the only beneficiaries of the trust are the testator's children. 

A typical grandparental settlement, "to such of my grandchildren as shall attain age 21", also will not qualify if the grandchildren are minors at the date of the testator's death because it is a relevant property trust. To secure the RNRB the grandparents would need to opt for a bare trust or at least an IPDI trust. Remember that 18-to-25 trusts and BMTs can only be created by parents. 

Is this the end of discretionary Will trusts? 

Historically, IHT planning for married couples has been founded on ensuring that full use is made of both nil rate bands. Where the main asset of the couple was their main residence such planning would involve sometimes very complex schemes based on debt or charges against the property occupied by the surviving spouse. There were potential problems if the property was left to a discretionary trust but the survivor continued to occupy it, as HMRC would often treat such an arrangement as a life interest in favour of the spouse, thus defeating the IHT planning objective.  However, since the introduction of the transferable nil rate band (TRNB) in 2007 the incentive to carry out such planning has significantly diminished. 

The introduction of a transferable RNRB for those who leave their family home to their descendants will diminish the need for this type of planning still further, especially as the RNRB will almost always be worth more on second death than it is on the first death. It is also important to note that if a gift of a 'qualifying residential interest' (such as a tenant in common share in the family home) is made to children on first death, the RNRB will be used in priority to the NRB, negating any possibility of a 100% uplift in the RNRB on second death. 

Of course, there may be other reasons for using the RNRB and/or NRB on the first death of a couple. For example, where either spouse has previously been widowed, use of the NRB /RNRB on the first death may pave the way for use of a total of three NRBs/RNRBs rather than just two. In such cases, absolute first death gifts to children should generally not exceed the available NRB - any excess can pass to the spouse who can then make unconditional potentially exempt transfers to the children if appropriate. 

Another situation when a use of the NRB on the first death would be appropriate would be when the house alone is valued at more than the total NRB amount likely to be available on second death (taking account of both nil rate bands and RNRBs) and there are no or insufficient other assets in the estate. In such a case a gift of a share of the property to children on first death might seem to be the easiest way to achieve this. 

Reinstating the RNRB after death 

So what if a Will provision is such that the disposition fails the RNRB requirements, e.g. to a discretionary trust? Well, post-death variations passing a residential interest to lineal descendants will attract the RNRB (assuming all the other requirements are satisfied) because there is reading back under IHTA 1984, section 142 for all IHT purposes. 

In addition, section 144 IHTA 1984 may also be of assistance. As indicated above, a discretionary settlement will not qualify for the RNRB even if all the beneficiaries are lineal descendants. However, an appointment made within 2 years of death to the lineal descendants will be read back into the Will under IHTA 1984, section144 and so trustees can retrospectively secure the RNRB for the estate.

Of course, ideally one should not have to depend on any post-death variations, as any such action will depend on the agreement of all those concerned and that may not always be forthcoming, especially if it may lead to some of the beneficiaries losing a part of their expected inheritance. 

Is there still freedom to disinherit one's children? 

Now that the Supreme Court has reversed the Court of Appeal decision in Ilott v Mitson (see Ilott v The Blue Cross and others [2017] UKSC 17) by re-stating the narrow range of cases that can be brought under claim under the Inheritance (Provision for Family and Dependants) Act 1975, those who were concerned that the old principle of English law that allows one to make whatever Will provision they want had been undermined, can breathe a sigh of relief.

In that case Heather Ilott brought a claim against the estate of her mother, Melita Jackson, after discovering that her mother's entire estate, worth approximately £486,000, had all been left to charities.  Mrs Jackson went to some considerable trouble in explaining the reasons for her decision not to leave anything to her daughter. Nevertheless the Courts, up to the Court of Appeal, found in her daughter's favour. Unsurprisingly, the decision of the Court of Appeal especially (which tripled the original award) caused some consternation in legal circles; thankfully it appears that we are back to business as usual.

Naturally, where the testator does not want to leave their estate to their children, the RNRB will only be available if the "residential interest" passes to other descendants such as grandchildren. If not, then the RNRB will not be available. As always any tax planning will have to take account of the individual's wishes, even if they do not produce the best tax outcome, as long as the individual is aware of the consequences of their action. Needless to say, if all assets pass to charity, as under Mrs Jackson's Will, there will be no tax to worry about.

The case also illustrates the importance of leaving not just a Will but also an explanation of the Will provisions, especially where the testator wants to disinherit a potential beneficiary. 

It should be remembered that it is different in Scotland where certain forced heirship rules apply. 

Conclusion

In conclusion, while it is essential that the RNRB provisions are considered and taken into account when making or reviewing a Will, in the end it will be up to the testator to decide.

According to recently reported figures from the government's Probate Register there were more than 12,000 Will disputes in 2016 and  most of these Will disputes were apparently  brought under the Inheritance Act 1975, largely because people feel that they have not been appropriately provided for in a loved one's Will. It is possible that the number of these might fall following the Ilott decision. 

The above-mentioned report also suggests that around half of adults still do not have a Will, which is quite extraordinary. 

Surely it is a duty of any financial adviser to ensure that their clients have a legally valid Will. As indicated above, an explanation of the reasons for their Will provisions can help too. And remember that a Will needs to be regularly reviewed and updated, especially after any major life event such as marriage, divorce or having children, as well as after any significant changes to the tax rules, such as the introduction of the RNRB.