20 March 2018
Last year the Court of Appeal decided The Woodland Trust v Loring, the first reported case to consider the interpretation of a nil rate band legacy following the introduction of the transferable nil rate band. This decision impacts on charities, which, as exempt beneficiaries, often benefit from a testator's desire to avoid paying unnecessary inheritance tax (‘IHT'), but now find clauses interpreted in a way that significantly reduces the gift to charity.
IHT is charged at 40% (save for certain exemptions) on a person's entire estate above the nil rate band of £325,000. However, bequests to surviving spouses, civil partners or charities are wholly exempt. Testators often seek to make a tax-efficient will (whereby none of the estate goes in tax) by splitting their estate between beneficiaries who are not exempt from inheritance tax, and so typically receive the 'tax free' amount, and beneficiaries who are exempt (such as a spouse, civil partner or charity) who typically receive the rest.
The calculation of the sum that can pass without payment of inheritance tax changed in October 2007 when the 'transferable nil rate band' ('TNRB') was introduced.
This change has a significant impact on charities as beneficiaries of residuary estates where there is a legacy to others of the nil rate band, ‘tax free sum' or similar wording linked to the nil rate band. The legacy may be interpreted as a single person's £325,000 nil rate band, or anywhere up to £650,000 if a 100% uplift is applied due to the transferable nil rate band. Thus, the residuary legacy could be reduced by up to £325,000. This is a significant loss to charity in respect of just one estate, clearly worse when extrapolated across a number of estates.
IHT taxes the ‘value transferred_' by a _‘chargeable transfer' and, on a person's death, it is charged ‘as if, immediately before his death, he had made a transfer of value and the value transferred by it had been equal to the value of his estate immediately before his death' (section 4(1) Inheritance Tax Act 1984 (‘IHTA')).
A ‘transfer of value' is ‘a disposition made by a person … as a result of which the value of his estate immediately after the disposition is less than it would be but for the disposition; and the amount by which it is less is the value transferred by the transfer' (section 3 IHTA).
The Transferable Nil Rate Band
In a 9 October 2007 Pre-Budget Report, the Government announced that a surviving spouse or civil partner would be able to increase his own nil rate band by the same proportion as went unused of the nil rate band of his pre-deceased spouse or civil partner. This applies to the estates of surviving spouses and civil partners dying on or after the date of the announcement, despite the fact it did not come into force until 21 July 2008 under the Finance Act 2008 (‘the Act'), which inserted new sections 8A to 8C into the Inheritance Tax Act 1984.
Section 8A provides that if a person had a spouse or civil partner immediately before their death and they have an ‘unused nil rate band' then ‘where a claim is made' under section 8A the ‘nil rate band maximum at the time of the survivor's death' shall be increased by the percentage that was unused of the first to die's nil rate band.
Section 8B contains the mechanism for claiming the TNRB. The personal representative of the surviving spouse or civil partner and ‘any other person liable to the tax chargeable on the survivor's death' may bring or withdraw a claim, within prescribed time limits.
In February 2009, HMRC published guidance and example clauses, set out below.
|Example wording||Augmented by TNRB?|
|A||I give free of tax to my trustees such sum as at my death equals a maximum amount which could be given to them by this Will without Inheritance Tax becoming payable in respect of my estate.||Augmented|
|B||To my trustee such sum as I can leave immediately before my death without IHT becoming payable.||Single|
|C||I give free of tax to my trustees an amount equal to the upper limit of the nil per cent rate band in the table of rates in Schedule 1||Single|
|D||To my trustees an amount equal to the nil rate band in force at my death||Single|
Despite only being guidance, these examples informed a great deal of commentary. They no longer appear on HMRC's website.
Construction – principles
When considering the construction of a document, effect must be given to the testator's intention. Intention is primarily determined from the document (ie the will) itself. Therefore the court is looking to construe the 'expressed intentions' of the testator from the will.
The Supreme Court recently set out in Marley v Rawlings  UKSC,  2 WLR 213 the proper approach to construction of wills, aligning it with construction of contracts. Lord Neuberger stated:
‘When interpreting a contract, the court is concerned to find the intention of the party or parties, and it does this by identifying the meaning of the relevant words, (a) in the light of (i) the natural and ordinary meaning of those words, (ii) the overall purpose of the document, (iii) any other provisions of the document, (iv) the facts known or assumed by the parties at the time that the document was executed, and (v) common sense, but (b) ignoring subjective evidence of any party's intentions…
When it comes to interpreting wills, it seems to me that the approach should be the same … the aim is to identify the intention of the party or parties to the document by interpreting the words used in their documentary, factual and commercial context. As Lord Hoffmann said in Kirin-Amgen Inc v Hoechst Marion Roussel Ltd  1 All ER 667_, para 64, “No one has ever made an acontextual statement. There is always some context to any utterance, however meagre.” To the same effect, Sir Thomas Bingham MR said in_ Arbuthnott v Fagan  CLC 1396, that “[c]ourts will never construe words in a vacuum”…
… Indeed, the well known suggestion of James LJ in Boyes v Cook (1880) 14 Ch D 53_, 56, that, when interpreting a will, the court should “place [itself] in [the testator's] arm-chair”, is consistent with the approach of interpretation by reference_ to the factual context.'
Section 21 of the Administration of Justice Act 1982 allows evidence beyond the will to be considered in determining construction:
- insofar as any part of the will is meaningless;
- insofar as the language used in any part of it is ambiguous on the face of it; and
- insofar as evidence, other than evidence of the testator's intention, shows that the language used in any part of it is ambiguous in the light of surrounding circumstances.
Following Loring, clauses concerning the TNRB are unlikely to be 'meaningless' for the purposes of (i). It is also unlikely that the words used will be 'ambiguous on the face of it' for (ii) above.
However, it may be that the words used are 'ambiguous in the light of surrounding circumstances'. Specific wording in a will, coupled with changes in the tax rules, may create an ambiguity such as to allow extrinsic evidence to be admitted.
Loring v The Woodland Trust
Loring considered the construction of a nil rate band legacy clause and whether the legatees would receive £325,000 or £650,000. Extrinsic evidence was not admitted. The court concluded the TNRB was enhanced, at the expense of the charity.
Valerie Smith (‘Mrs Smith') was a widow when she made a will in 2001 which included a nil rate band legacy to her family at clause 5, as follows:
‘MY TRUSTEES shall set aside out of my residuary estate assets or cash of an aggregate value equal to such sum as is at the date of my death the amount of my unused nil rate band for inheritance tax and to hold the same for such of the following as shall survive me'
She left residue to the Woodland Trust.
Mrs Smith had conversations with her Lloyds TSB relationship manager, Mr Ian Taylor, summarised here in the words of Mr Taylor's 26 June 2012 letter to the claimants/respondents:
In summary, my notes from the meeting show the following:
‘(2) On 29 July 2008 I explained to Mrs Smith legislative changes regarding a deceased spouse's unused nil rate band (NRB) and that it was now possible to pass the portion of the unused NRB on to the surviving spouse. As a result, her estate should benefit from a double NRB. At the time of the discussion, this would double up the NRB for her estate to £624k, and as we had a value for her estate of approximately £640k we agreed that it was no longer necessary to conduct any further inheritance tax planning (please note there is an error in the notes as they detail that we agreed that it was necessary). I noted that she was appreciative of this conversation.
‘(3) On 9 March 2011 I noted that we discussed that she should have two NRBs available and she was gifting her remaining allowance to charity.'_
Mrs Smith died in 2011 leaving a net estate of £680,805.
Mrs Smith's executors (her sons) claimed a 100% increase in Mrs Smith's nil rate band, equal to the 100% unused proportion of their father's nil rate band.
Mrs Smith's executors brought proceedings claiming that Mrs Smith had intended to leave them the enhanced nil rate band legacy so that the gift at clause 5 was worth £650,000 (rather than £325,000).
The Woodland Trust's position was that the gift of residue to the charity was worth £355,805 (rather than £30,805), clause 5 being a gift of Mrs Smith's unenhanced nil rate band.
The Judge found, in favour of the claimant executors, that the clause was effective to transfer the husband's unused nil rate band.
The Judge held that, as the words were not ‘ambiguous or meaningless', extrinsic evidence was not admissible under section 21 of the Administration of Justice Act 1982.
In any event, there was no evidence of Mrs Smith's intention contemporaneous with her making the will. The Woodland Trust succeeded in having Mr Taylor's subsequent letter to the claimants ruled admissible, as Mrs Smith had reviewed her Will with her advisors after the TNRB came into force, and not at the time she made her will.
The Judge referred to RSPCA v Sharp  1 WLR 980 and Perrin v Morgan  A.C. 399 as to the approach to take in construing the language of the will, i.e. that one has to ‘examine the language of the will in its context taking into account the will as a whole; any relevant background circumstances which inform the meaning of the words used; and giving the words their ordinary meaning unless they are obviously used in some special or technical sense.'
The Judge concluded that the natural meaning of the wording in clause 5 includes an enhanced nil rate band.
The clear intention behind section 8(3) of the IHTA 1984 was that a successful claim to transfer the pre-deceased spouse's unused nil rate band resulted in it being added retrospectively to the deceased's nil rate band.
Reference to ‘my nil rate band' did not, in the Judge's view, indicate that the increase is not included. In fact, it ‘has the opposite effect'.
The Judge was referred to the nil rate band examples in HMRC's Inheritance Tax Manual IHTM 43065 (see above). The Judge concluded that clause 5 came closest to the first example that was said to dispose of the nil rate band enhanced by a spouse's transferred nil rate band.
The legacy at Clause 5 therefore amounted to £650,000.
The Woodland Trust appealed. Leading Counsel for the charity (Penelope Reed QC) argued that the words ‘at the date of my death' and the possessive ‘my unused nil rate band' in the relevant clause pointed away from any enhancement. The effect of the Judge's conclusion was that the amount of the legacy was dependent upon whether or not the executors chose to make the section 8A claim. The testatrix could not have intended the amount of her legacy to depend on the exercise of discretion by the executors.
The Court of Appeal found Penelope Reed QC's arguments ‘compelling' but decided in favour of the family. When the testatrix made her will she clearly did not have a specific figure in mind but intended that the gift be equivalent to the amount of her unused nil rate band. The statutory consequence of section 8A was to increase the value of the nil rate band to £650,000. The post-death claim by her executors retrospectively increased the value as at the date of her death of her nil rate band.
Charities can take little comfort from the Loring decision. Not only did the Court of Appeal uphold the first instance decision upheld, it took a broader, more purposive approach which will make it more difficult in future to restrict legacies to a single nil rate band. The evidence that Mrs Smith was advised after 2008 that the transferable nil rate band would increase the legacy (although ruled inadmissible) cannot have helped.
Not all nil rate band clauses are in this form, however, and there will be many instances where the wording only gives a single nil rate band. Individual clauses still need to be considered on their specific wording.
For example, it is difficult to see how 'To my trustee such sum as I can leave immediately before my death without IHT becoming payable' can carry the TNRB.
For the full appeal decision click here.
When looking at wills drafted prior to section 8A's enactment, one has to interpret the wording knowing the testator had no idea that the TNRB would exist.
Loring is undoubtedly bad news for charities, but it certainly does not mean that every form of words will have the same outcome.