Top tips for charities left a legacy under a will

Leaving a gift to a charity in their will is a way for an individual to leave an enduring legacy and continue to make a difference to a cause which was important to them during their lifetime. To both respect the individual’s intended legacy and ensure the beneficiaries of the charity’s work enjoy the greatest possible benefit from it, it is essential that all parties work together to maximise its value.

Here are some top tips to help achieve this.

Consider appreciating assets

If a charity is left a share of an estate which contains appreciating assets (e.g. a property or shares) then the executors should consider appropriating part or all of those assets to charity and the other beneficiaries. If an asset increases in value between the testator’s death and the date of sale, then a charge to capital gains tax (CGT) will arise and the executors will pay tax on the gain at 24% / 20% depending on the nature of the asset. If such an asset is appropriated prior to sale, however, then the gain will be taxed in the hands of the beneficiaries and not the executors. As charities are exempt from paying CGT, this will mean that no CGT will be paid on the charity’s share of the appropriated asset.

Any CGT paid will be set out in the estate accounts, but these are usually only sent to residuary beneficiaries at the end of an estate’s administration. By this time it will be too late to consider appropriating assets and, therefore, this needs to be considered at an earlier stage. It is important that you receive a Schedule of Assets & Liabilities, or a copy of the Inheritance Tax forms as soon as they are available.

Rules around charity land

It should be remembered that, if executors do appropriate land to one or more charities prior to selling that land, it will become charity land and they will need to comply with the provisions of the Charities Act 2011. Importantly, the executors would need to obtain a report from a surveyor suitably qualified to comply with the requirements of the Charities Act 2011. This report would of course need to be circulated and considered prior to any sale taking place.

Think about income tax

During the course of its administration an estate is likely to receive income, most commonly in the form of interest or dividends. If the value of this income is above a certain limit, the executors will have a duty to report that income to HMRC and pay tax on it. Charities, however, are generally exempt from income tax and can normally reclaim a tax credit in respect of any tax paid on its share of the estate’s income (although not in the case of dividends). In order to make such a claim, the executors will need to prepare a form R185 for each charitable beneficiary whenever income is distributed to them.

Whilst this will normally occur at the end of an estate’s administration, the administration of more complex estates can take several years. In such cases, it should be noted that the tax credit available to a charity is not the amount of tax paid, but the rate which applies for the year in which they receive their distribution. Executors and charitable beneficiaries should, therefore, consider whether annual distributions of income might be made, rather than a single distribution at the end.

Nominate one spokesperson

In estates where there are multiple charitable beneficiaries, they should consider nominating one charity to liaise with the solicitor administering the estate. It is normal and important that beneficiaries are kept updated, but multiple, regular requests for updates can quickly increase the costs of administering an estate. By nominating a single charity to request such updates, circulate them amongst all the beneficiaries and then provide feedback to the solicitor, these costs can be managed. This also ensures that all beneficiaries received exactly the same information at the same time.

Consider a deed of variation

If a charity is entitled to inherit from the estate of a testator who themselves received an inheritance within the last two years of their life, then both the executors and the charity should consider a deed of variation, and quickly. If the estate of the first to die was chargeable to inheritance tax (IHT), then the executors of the second to die might be able to prepare a deed of variation redirecting some or all of the testator’s inheritance to the charity. This should lead to a refund of IHT in the estate of the first to die and increase the overall value of the charity’s inheritance.

Ensure IHT is properly apportioned

In estates where there is a mix of exempt beneficiaries (e.g. charities) and non-exempt beneficiaries, it is very important that the parties ensure that any IHT paid by the estate is properly apportioned before final distributions are made.

For example, imagine an estate which, after all taxes and expenses have been paid, is worth £500,000, to be divided equally between 5 charities and 5 non-exempt beneficiaries. An executor with limited experience might assume that each beneficiary should simply receive £50,000. However, things are not so simple and, by dividing the estate in such a way, the executor could be breaching s.41(b) of Inheritance Tax Act 1984.

S.41(b) says that none of the tax attributable to the value of the property comprised in residue shall fall on any gift of a share of residue if or to the extent that the transfer is exempt with respect to the gift.

This rule cannot be overridden by any clause within a will, but an individual does have two options for dealing with such a situation when drafting their will. The distinction between the two options comes down to whether the testator wishes for the division of their estate between the beneficiaries to take place before IHT is calculated (Re Ratcliffe) or after IHT is calculated (Re Benham).

The first option is by far the most common, and results in the estate paying less IHT. Moreover, with the example estate given, by simply dividing the estate equally between the beneficiaries, part of the IHT burden will fall upon the charities’ shares, and thus breach the s.41(b). Instead, the executor will need to apportion the whole of the estate’s IHT liability between only the shares of the non-exempt beneficiaries and none of the charities’ shares. If the example estate’s IHT liability was £50,000, each charity will receive £55,000 and each non-exempt beneficiaries will receive £45,000, despite on the face of the Will perhaps appearing equally entitled to the residuary estate. This can make a considerable difference to the value of a legacy.

Some testators do wish for mixed residuary beneficiaries to ultimately receive exactly the same amount (the second option) but this will lead to the estate paying more IHT and require the executor to undertake a complicated grossing up calculation in order to avoid breaching s.41(b).

To plan appropriately here, charities should consider the wording of the Will at an early stage and check that their interpretation is the same as the executor’s.

If you have any questions please get in touch.