Thursday, 6 November 2014

The damaging consequences of receiving poor legal advice

Coming to terms with the fact that one day you may not be able to support your loved ones is tough, so it pays to take a recommended professional's opinion. Despite being only four weeks into my training contract I have already witnessed the damaging consequences of receiving poor legal advice, often from unregulated parties.  New clients have contacted the Private Clientpractice group requesting further assistance on trusts they have already created based on the advice of others.  One particular Will and Trust writer has been the source of many people's misery and what makes this particular circumstance so deplorable is their professional looking website and specialist TV advertising, enticing the public to use their services.     

One of the most shocking examples of this is a recent case which I have been assisting in, that relates to a couple who set up three trusts, the first involving their family home and the others a rental property they jointly own.

Like many others, this couple were hoping to prevent their children being faced with high inheritance tax charges upon their death. Unfortunately the trust writer failed to provide them with any information on the tax implications that would arise in creating the trusts.

With the help of this  trust advisor, the couple transferred the family home into an ‘interest in possession’ trust, with the couple holding the life interest in the property, meaning despite not being the legal owners they were free to live in the property for the rest of their lives. The rental property was transferred into two discretionary trusts, which mirrored each other, meaning the value of the property  was effectively removed from their estates.

However, the couple had not been informed that all lifetime transfers into relevant property trusts are immediately subjected to inheritance tax, meaning that the family home, which was valued at £380,000 and the rental property, valued at £300,000, were subject to inheritance tax payable on both transfers. Thankfully for the couple their combined nil rate bands were available and equated to £650,000, therefore no inheritance tax was payable up to this amount. Nonetheless because the combined value of the properties equated to £680,000,   £30,000 over the nil rate band threshold, the £30,000 was immediately liable to inheritance tax at 20%.

As one can imagine, this couple who were trying to avoid inheritance tax charges on their deaths were not too thrilled to discover that inheritance tax was still due. To make matters worse, because the couple continue to live in the family property it will still be included as part of their estate for inheritance tax purposes when they die and their children will be taxed anyway. However, the transfer of the rental property into trust had effectively removed it from their estates for inheritance tax purpose on death.

In addition to the advice on inheritance tax, advice on capital gains tax and income tax should have also been provided. The transfer of the properties into trust triggered a disposal for capital gains tax purposes. Luckily for the couple there were two relief's available to them to eliminate the tax payable.

Firstly, Principal Private Residence Relief could be claimed for the family home, meaning that no capital gains tax would be payable on this. Secondly, the couple could claim holdover relief for the rental property meaning they would not be liable for the capital gains tax themselves. Instead the trustees  in acquiring the property for the original acquisition value that the couple  first paid will be liable for the capital gains tax on the property’s rise in value when they dispose of it.

The downside of all this to the couple  is that from the date the trusts were created, they   could no longer receive the income  from the rental property, as this would have to be paid into the trust and the trustees will have to pay the income tax on this.

Many will be surprised to learn about the numerous tax liabilities trusts can create and those who wish to create them must ensure they receive sound advice beforehand. For this poor couple the tax advice came too late but this certainly highlights the importance of instructing a quality solicitor who can advise you on the multiple implications of any transaction you wish to make.  

Posted by Lucy Newman, trainee in the private client practice group.

Lucy graduated from the University of Nottingham in 2011 with a degree in Politics and American Studies (International Study). She went on to complete the Graduate Diploma in Law and Legal Practice Course at the University of Law (Bloomsbury).

After working as a paralegal in the Real Estate team for a large city law firm, Lucy joined B P Collins LLP in September 2014. 

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