Discounted gift schemes – valuation of reserved rights for IHT

‘Discounted gift’ schemes may be regarded as one of the acceptable faces of tax planning, since HMRC have issued guidance on how to arrange a discounted gift scheme without falling foul of the rules governing gifts with reservation of benefit (see Technical Note of 2 May 2007). The essence of a discounted gift scheme is that there is a gift of a bond issued by a life assurance company, from which some rights are retained by the donor. Typically these will consist of the right to receive payments, the rights being sufficiently well defined, so as not to amount to a reservation of benefit. The gift will be a transfer of value, which may be an immediately chargeable transfer, or a potentially exempt transfer (PET). Section 3 (1) IHT Act 1984 defines a transfer of value as the loss to the donor’s estate, at the time of the transfer, which is essentially the amount paid to the life insurance company, less the value of the retained rights. The nature of the retained rights, which invariably take the form of a right to receive a series of payments, which will cease on the donor’s death, is such that they are unlikely to be of any value in computing the value of the estate passing on death. Consequently, there is merit in arguing that the value of the retained rights, as at the date of original gift, is substantial if the question arises in computing the value of the chargeable on that occasion (either because it is immediately chargeable or because a PET has failed). The Technical Note suggests that the value of the retained rights will depend on the donor’s age, sex and health at the date of the gift. This may seem self-evident as relating the value of the retained rights to the donor’s expectation of life. However, the Technical Note goes on to explain that these factors come into the valuation as affecting the insurability of the donor, and if the donor was to be uninsurable at the date of the gift the value of the retained rights would be nominal. This view may need to be reconsidered in the light of the Special Commissioners’ decision in Bower v HMRC (2008) UKSPC 665.