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When does fall in value relief apply?
A potentially disadvantageous tax position can arise when, for example, following a lifetime gift such as a potentially exempt transfer (PET), the value of the gifted asset has fallen at the point the donor passes away and before the gift becomes fully exempt. This can occur during volatile market conditions, as seen throughout 2022. The worst-case scenario would be where the fall in value was more than 60%, so that the inheritance tax (IHT) at 40% would be more than the value enjoyed upon the donor’s death. The fall in value relief can compensate for this.
Legislation requires the recipient to pay any IHT necessary on a gift received should it become chargeable, such as if the donor had used their nil rate band (NRB), or if the gift was in excess of this. Without fall in value relief – which needs to be claimed to take effect (s131 IHTA 1984) – the charge to IHT would be based upon the value of the gift when made, less the taper relief available from the end of the third year until the end of year seven.
During periods when market conditions are more positive any growth on the gifted asset is considered outside the estate of the deceased immediately following the gift.
Who must make the claim, and by when?
The claim must be paid by the person responsible for the IHT – whether that is the recipient of the gift, or trustee in the case of a chargeable lifetime transfer (CLT) – and made within four years of the death of the donor. The recipient need not own that property at the date of death. However, if sold this must be at arm’s length and at the open market value to prevent abuse.
Client example (for illustrative purposes only)Frances transfers a portfolio of quoted shares to her son David on 1 February 2010 valued at £100,000. On 1 February 2011 she transfers a house to her daughter Jane, valued at £250,000. Frances dies on 1 April 2013, when the IHT NRB was £325,000. There is no IHT due on the gift of quoted shares as the value is less than the NRB. IHT of £10,000 is payable on the gift of the house (£250,000 - £225,000 (NRB £325,000 - Shares £100,000) = £25,000 × 40% = IHT £10,000). Gift of house: £250,000 Less NRB: £225,000 (NRB £325,000 – Shares £100,000) Remaining: £25,000 x 40% = IHT £10,000 At the date of death, the house was valued at £230,000 and Jane makes a claim for fall in value relief. The value of the gift is reduced to £230,000 and the tax position is recalculated: Total gifts: £100,000 (shares) + £230,000 (house) = £330,000 The IHT liability is therefore reduced from £10,000 to £2,000 following the claim.
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