Midweek Money: The great escape

A change in the law means less of your bequest need end up with the tax man.
The landed gentry have, over the past few decades, faded into genteel - and sometimes poverty-stricken - obscurity. But shire toffs were given cause to celebrate earlier this month, after the Inland Revenue suffered a rare defeat in the House of Lords, in a case which could rescue hundreds of large estates from crippling inheritance tax duties.

The Lords found in favour of taxpayers in an argument over a disputed inheritance tax bill that could have cost the estate of Lady Ingram, a wealthy landowner, hundreds of thousands of pounds. The implications of the Ingram judgement are clearly important - scores of similarly-affected landowners paid into a fighting fund to help pay for the legal battle waged by her descendants and their lawyers.

While few of us have the sort of estate that Lady Ingram or her supporters had, the decision in her favour has shown a way of solving a common problem. Lady Ingram's concern was that she wanted to give her house to her family. That, as is well known, is the basic way of avoiding inheritance tax (IHT) - pass on your assets, survive for seven years, then there is no tax to pay. But this was her home so what was she going to do if she gave it to her children? And given that this was no suburban semi but a large country house, Hurst Lodge, set in 61 acres of countryside, one can understand her wish to live out her days there.

How about giving away the house but keeping the right to live there? Not good enough: the IHT rules have a nasty provision called GROBs - Gifts with Reservation Of Benefit. Giving something away but keeping a part of it means that the tax will operate as if you hadn't given the asset away at all. So if Lady Ingram gave away the house but stayed living there, she would be GROB'd unless she paid full market rent for the property - probably impractical. And few would want to give their house away without the definite right to stay on, leaving it up to their offspring to have the final say - children don't always do what you want!

The idea of splitting the asset does start a train of thought. Shares can be split into an income stream (the dividends) and a capital asset: could the same thing work with a property? This was in effect what was done with Hurst Lodge. Lady Ingram transferred the property to her solicitor who promptly granted her a 20-year lease to live in the property rent- free. The freehold was held in trust for her family.

The House of Lords has held that this route works to avoid the GROB rule. Lady Ingram had, in effect, created two assets where one was before, passed on one of those assets, and gained an IHT advantage.

Sadly Lady Ingram is no longer with us to celebrate her triumph. She died in 1987. But she has left a legacy of value to others beyond her family. Anyone in a similar position to her - probably a widow, living in a large house that is the major part of their assets, with no spouse to leave their wealth to - may be able to solve an IHT problem. (Anything left to the spouse is IHT-free.) The door has opened to show a way of passing on the property and reducing the IHT burden. But this not something to do without professional advice. Inevitably, anything to do with property needs proper legal documentation - so, as the TV shows put it, please don't try this one by yourself at home. However, if home does represent a large potential IHT burden - perhaps the majority of a pounds 400,000-plus estate, which would imply IHT of at least pounds 70,000 - it might well be worth exploring the route and incurring some professional fees.

There will be risks. Getting the paperwork right is crucial to minimise the dangers of the plan not working. And it must be borne in mind that this might be a door that is only briefly open - it may well be one that is slammed shut again by the Chancellor in next year's Budget, or even earlier if he sees a flurry of Lady Ingram imitators exploiting her legacy.

John Whiting is a tax partner at PricewaterhouseCoopers, chartered accountants.

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