This case study demonstrates how careful planning can achieve an immediate tax advantage and avoid a longer term tax disadvantage.
We acted for trustees holding a painting by a famous English landscape artist. The painting was estimated to be worth £8,000,000. As a heritage item, it had been exempted from estate duty in 1960 on a death when the rate was 75%. As a result of that exemption, if the picture was ever sold not only would capital gains tax be payable on the increase in value during the trustees’ period of ownership, but so too would the very high rate of estate duty. The only way of wiping out the contingent estate duty liability once and for all was to re-exempt the painting on the death of someone who owned it.
It became known that one of the beneficiaries of the Trust was terminally ill. It was important to take a pragmatic view and consider the long term benefit of the family. With his agreement, the trustees transferred ownership to him a few weeks before he died. That could be done without any immediate tax liability.
On the death of the new owner shortly afterwards, the painting passed to a discretionary trust which he had included in his Will for the benefit of his family. It was important that he did not simply leave it to his wife, since it would then have been spouse exempt and it would not have been possible to claim the re-exemption for items of pre-eminent (i.e. museum standard) artistic quality. It had been established with one of the leading auction houses that the painting should be regarded as of that quality.
An immediate advantage of the beneficiary’s death while owning the picture was that the inbuilt capital gains were wiped out CGT-free. His executors took on the picture at its probate value on his death. Therefore, only the subsequent increase in value will be liable to CGT on a future sale.
We arranged for the executors to make a successful claim to HMRC to re-exempt the picture from inheritance tax on the new owner’s death. (Had that claim failed, we could have retrospectively obtained spouse exemption had the picture been distributed from the discretionary trust to his widow within two years of his death, so there was a safety valve.) The claim for conditional exemption involved not only agreeing with HMRC and the Museums, Libraries and Archives Council (now Arts Council England) that the picture was of museum quality, but also the public access requirements which are an intrinsic part of the exemption process. The family wish to retain the picture and we were able to negotiate an advantageous arrangement whereby the painting must be on public display for at least six months every five years, but can otherwise be at the family home with access by prior appointment being allowed.
By exempting the picture from inheritance tax, the liability to pay estate duty at 75% should the picture be sold has been expunged once and for all. If the picture is ever sold, apart from the CGT on the gain since the owner died, IHT at only 40% will then be payable.
The family continue to enjoy the ownership of the picture and postponed an inheritance tax liability of over £3,000,000 when the beneficiary died.