New Clause 5 — Inheritance Tax: Mitigation of Double Charges

Orders of the Day — Finance Bill – in the House of Commons at 2:45 pm on 6th July 2005.

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After section 104 there is inserted—

"104A (1) This section provides for the mitigation to the extent specified, of double charges to tax arising in the circumstances specified (in subsection (2)).

(2) The specified circumstances are—

(a) an individual ('the deceased') makes a transfer of value to a person ('the transferee') of property which comprises a debt owed to him by another ('the debt'), and

(b) the transfer is or proves to be a chargeable transfer, and

(c) the deceased dies on or after 31st July 2005 and within seven years of the transfer of value, and

(d) at the date of the deceased's death all or part of the debt has been written off, waived or released by the transferee or by any other person and such write off, waiver or release was made otherwise than for full consideration in money or money's worth, and

(e) that part of the debt which is written off, waived or released was before such event, represented by or was attributable to or its value was derived in part or whole directly or indirectly from, other property being relevant property within the meaning given in paragraph 21 or 22 of Schedule 15 to the Finance Act 2004, and

(f) the deceased is for the purposes of IHTA 1984 or section 102(3) Finance Act 1986 beneficially entitled immediately before his death to the relevant property or if not so beneficially entitled the relevant property was the subject of a potentially exempt transfer by virtue of section 102(4) of the Finance Act 1986, and

(g) the relevant property—

(i) is comprised in the estate of the deceased immediately before his death within the meaning of section 5(1) of the Inheritance Tax Act 1984 and the value attributed to it is transferred by a chargeable transfer under section 4 of that Act, or

(ii) is property transferred by the potentially chargeable transfer to which sub-paragraph (f) applies, value attributable to which is transferred by a chargeable transfer.

(3) Where this section applies, there shall be calculated, separately in accordance with sub-paragraphs (a) and (b), the total tax chargeable as a consequence of the death of the person—

(a) disregarding so much of the value transferred by the transfer of value of the debt (being the property to which paragraph (2)(a) refers) to the extent that the debt has been written off in accordance with paragraph (2)(d) above, and

(b) disregarding so much of the value transferred by the transfer of value of the relevant property (being property to which paragraph (2)(g) refers) as is represented by or attributable to the value of that part of the debt which has been written off, waived or released in accordance with sub-paragraph (2)(d).


(a) Whichever of the two amounts of tax calculated under paragraphs (3)(a) or (b) is the lower amount shall be treated as reduced to nil but subject to sub-paragraph (4)(b) the higher amount shall be payable.

(b) Where the amount calculated under paragraph (3)(a) is higher than the amount calculated under (3)(b)—

(i) so much of the tax chargeable on the value transferred by the chargeable transfer to which paragraph (2)(g) refers as is attributable to the amount of that value which falls to be disregarded by virtue of paragraph (ii) shall be treated as a nil amount, and

(ii) for all the purposes of the 1984 Act so much of the value transferred by the debt to which paragraph (2)(a) refers as is attributable to the property to which paragraph (2)(d) refers shall be disregarded.".'.—[Mr. Philip Hammond.]

Brought up, and read the First time.

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

I beg to move, That the clause be read a Second time.

New clause 5 addresses an anomaly—indeed, I might call it an injustice—that is estimated to affect about 30,00 people, and which we believe was not intended to arise. We recognise that there may be ways of achieving the relief that the new clause seeks other than amendment of the underlying primary legislation, but this is the route that we have chosen. I hope that I shall be able to secure a commitment from the Paymaster General, if not to accept the new clause as drafted, at least to provide relief from the double charge that I shall describe by whatever means the Revenue finds most appropriate, so that those 30,000 people can get on with their lives with some certainty about their position in relation to inheritance tax.

If I might indulge in a little background history, the House will recall the closing of an inheritance tax avoidance scheme involving pre-owned assets in the 2004 Finance Act. The scheme, used by many families, essentially involved disposing of the family home while retaining the right to live in it. It relied on the creation of two trusts to avoid the rule that would make a transfer ineffective for inheritance tax purposes where an interest—the right to continue living in the house—was retained when the gift was made.

Under the scheme, the house, rather than being given away, was sold to a trust—let us call it trust one—at an arm's length price in exchange for an IOU. Because that was an arm's-length market price transaction, it had no inheritance tax implications—the individual had simply swapped assets in the form of a house for an IOU. Then came the clever bit—the IOU was gifted to a second trust for the benefit of the donor's children, that being a trust in which the donor had no interest. Thus the gift of the IOU to the second trust became a potentially exempt transfer—if the donor survived seven years from the date of the gift, no inheritance tax would be payable. Of course, the gift of the house to the children's trust would also be a potentially exempt transfer, and if the donor survived seven years, no inheritance tax would be payable, but only if the donor retained no interest in the house. If the donor wanted to live in the house, that route would not work for inheritance tax purposes, and the use of the double trust device allowed the potentially exempt transfer benefit to be obtained while retaining a lifetime interest in the house for occupation.

Let us be clear: that was a convoluted, although legal, piece of tax planning, prompted by the ever-widening net of inheritance tax. That tax was originally intended to capture the estates of the wealthy on death. The threshold has been allowed to reduce in real terms in relation to the value of the principal assets that make up modest estates—people' houses—to the extent that in my constituency and, I am sure, in many other parts of the country, an estate comprised solely of a three-bedroomed former council house will be caught by what has become the greatest stealth tax of all, a tax which, until recently, ordinary people did not have to bother themselves about.

Photo of Charles Walker Charles Walker Conservative, Broxbourne 3:00 pm, 6th July 2005

Does my hon. Friend agree that the tax at the current threshold penalises most people living in the east and south-east who might be on moderate incomes and have moderate homes? Does he believe that the original intention of the tax when introduced was to hit such people?

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

My hon. Friend makes two very good points. Clearly, it was not the intention of inheritance tax when introduced to hit the estates of modestly-off people—it was a tax at death on the estates of the wealthy, and was originally conceived as a tax on land. Its scope is now far wider than was originally intended, and it has become one of the great stealth taxes, largely because of the rapid increase in house prices.

My hon. Friend makes another excellent point: its incidence is not evenly distributed across the country because of the historic disparity in the rise in house prices and the level of house prices. People on average incomes in parts of the south-east, London and eastern England are likely to be caught by the tax, and people on average earnings in other parts of the country are much less likely to be caught by it, because of the less rapid escalation in the value of their housing assets. That is another aspect of the unfairness of using fiscal drag as a way of expanding the scope of a tax.

Photo of John Gummer John Gummer Conservative, Suffolk Coastal

Does my hon. Friend therefore agree that, when the Government tried to block what it was perfectly reasonable to block, it was not acceptable that they did it retrospectively and then pretended that it was not retrospective? Its retrospectiveness lay in the fact that people who had done what was perfectly legal and what had been shown in the courts to be legal were then told that it would have to be undone, in circumstances that, by their nature, would be wholly different from the circumstances in which they had made the decision in the first place. Had they known that that was going to happen, they would not have made the same decision. That was blatant retrospectiveness.

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

My right hon. Friend is right. Those of my hon. Friends who have had the opportunity of serving on the Finance Bill Committee, and those who served on previous Finance Bills, will know that the Paymaster General will make a great case for the distinction between retrospectivity and retroactivity. She will say that the measure was not retrospective, although it was retroactive. I am afraid that the effect on the taxpayer is exactly the same.

In the Finance Act 2005, the Government called time on this particular scheme, not by attacking inheritance tax planning directly but by levying an income tax charge on the value of the benefit from the retained interest in the house sold at arm's length to the first trust. That caused considerable anguish and anger because of the retroactive nature of the legislation—imposing a new tax on a series of difficult-to-reverse transactions, some of which had been in place for nearly two decades when the measure was introduced. There was a large-scale gnashing of teeth at the time. Now that the dust has settled, most taxpayers accept that the game is up, and that the schemes that they have expensively set up have failed for the purpose that they set them up, and that those schemes should now be dismantled. That is what most taxpayers confronted with this new income tax charge want to do. Therein lies the problem that we seek to address with new clause 5.

The Government action under the Finance Act 2004 was devastatingly effective. It completely removed the economic benefit of the schemes, and the Government's objective would be achieved by the dismantling of the schemes. Unfortunately, in doing so, the taxpayer is subject to a huge risk of a double taxation charge. The Government have provided a protected exit route from such schemes. Regulations under the Finance Act 1986 provide some protection against double charging, and regulations that were made earlier this year, under schedule 15 to the Finance Act 2005—a measure targeted to deal with a problem that had already been recognised—provide for those who have set up such a scheme to avoid the income tax charge by making an election, which essentially makes the whole establishment of the double trust transparent for inheritance tax purposes. The trusts therefore remain in place, but the house, notwithstanding its sale, is treated as a chargeable asset, and the relief is given on the lesser in value of either the house or the debt due from the children's trust on death. No double charge to tax would therefore arise.

That is a de facto unwinding of the situation from an economic, not a legal, standpoint. It has been an effective way out of the mess for many ordinary middle-income families, leaving them bruised by the expense and stress of setting up and then unravelling the scheme but otherwise intact, while protecting the Exchequer at the same time by ensuring that the same inheritance tax is payable as would have arisen in the absence of the scheme.

There are good reasons, however, why the election route under regulation 6 of the snappily named Charge to Income Tax by Reference to Enjoyment of Property Previously Owned Regulations 2005 is not an appropriate route for most people. First, the ownership of the property is left unchanged—the economics of the scheme are addressed but ownership is not, so that while the house will be charged to inheritance tax in the donor's estate, the debt, which has been gifted to the children's trust, remains in existence and will eventually give rise to a tax charge on the children who are the beneficiaries of the children's trust.

Secondly, most people not unnaturally feel that, if they have come out with their hands up, unravelled the arrangements that they have made and accepted that they will remain liable to inheritance tax on their house—the asset originally intended to be protected—there should not then remain in existence what is effectively a debt due from them to the children's trust that they have established.

Thirdly, and perhaps most importantly, for technical reasons, an election under regulation 6 by a married couple will give rise to an inheritance tax charge on the first death rather than, as is normally the case with a married couple, on the second death. That does not alter the total inheritance tax due on the house, but it can cause serious cash-flow problems for the surviving spouse, and may possibly even require the sale of the house on the first death.

That cannot—at least, I hope it cannot—have been the Government's intention. Given the problems that I have outlined, the obvious route for such people is to unwind the scheme rather than take advantage of the right to make an election under regulation 6. Unwinding the scheme would involve the trustees of the children's trust advancing the debt to the beneficiaries and the beneficiaries then releasing or writing off the debt due to them, so the position would revert to what it had been before. Mr. and Mrs. A would no longer hold the house subject to a debt but would be fully liable to inheritance tax on its value, while escaping the income tax charged on pre-owned assets.

The difficulty is that, if either Mr. or Mrs. A, or both of them, die within seven years of the original gift of the debt to the children's trust, they face two lots of inheritance tax, one on the failed potentially exempt transfer represented by the gift of the debt and one on their share of the full value of the house. Two inheritance tax charges will be made on what is essentially the same economic value.

Before this year's regulations were made, that problem also arose if people made an election under the Inheritance Tax (Double Charges Relief) Regulations 1987. However, regulation 6 of the 2005 regulations now relieves from a double taxation charge the estates of people who die within seven years of the original gift of the debt having made the election under regulation 7.

Unfortunately, the same treatment does not extend to people who unwind arrangements completely. Our purpose is to seek a commitment to close that unintended trap—at least, I hope it was unintended—for unwary people seeking to comply with the changed rules by unravelling the schemes that they set up before the Finance Act 2004.

New clause 5 seeks to amend the underlying primary legislation—the Finance Act 1986, under which the original relief was available—to address the circumstances that I have identified, by inserting new section 104A. In practice, that would extend to people who die within seven years of unwinding a scheme by writing off or releasing the debt, the same relief as applies to those making an election. It would do that by requiring two separate calculations of the tax due—in respect of the debt and in respect of the house—and requiring the lower valuation to be reduced to nil, and the higher amount to be payable. Essentially, that is the same procedure as required under regulation 6 of the 2005 regulations for people who have made an election.

Subsection (2)(d) of proposed new subsection 104A, providing that the double taxation relief would be available only if the release of the debt was being made other than for full-value consideration, would ensure that the new clause could not become a tax avoidance mechanism in itself. The relief would operate whoever released the debt. In the example that I have used, it would be the children who were the beneficiaries under the children's trust. The debt would have to be advanced to the beneficiaries, because only they could readily give a discharge of the debt from the settlor. The trustees cannot write off the debt, because to do so would confer a benefit on the settlor, who would have been excluded by the terms of the original trust deed when it was set up for the original purpose.

For whatever reason—I suspect it is largely because of the pressure of the growing net of inheritance tax—ordinary people have been lured into complex tax planning by the iniquitous tax drift that has turned IHT into the biggest stealth tax. Retroactive legislation has been imposed on them, and most of them have now accepted that the schemes into which they entered are ineffective, and they want to unwind them, thus giving effect to the Government's intentions. However, they find that they cannot do so without incurring a real risk of double taxation which, even without taking into account the costs of setting up and dismantling the scheme, would leave them significantly worse off.

We must not forget that, as my right hon. Friend Mr. Gummer said, those schemes were perfectly legal tax planning when they were set up. Indeed, they remain so, although they have been economically neutered. Ordinary people seeking to comply with the changed rules should not be penalised by modest estates being put at risk of a potential 80 per cent. tax charge on the surplus value of the estate over the IHT threshold if both the debt and the house are charged to IHT.

Even with the proposal for relief that we suggest in new clause 5, there would still be considerable downside risk for the taxpayer seeking to unwind such a scheme. First, a beneficiary of the children's trust will suffer inheritance tax if he dies within seven years of the debt being written off. Secondly the position for married couples who leave their property to each other on the first death, within seven years of the original gift, will remain unsatisfactory. For example, if Mr. A dies within seven years of the original gift of the debt, the potentially exempt transfer will become chargeable, even with double charge relief. On Mrs. A's death later, the full value of the house would become chargeable, so in effect, Mr. A's share will be taxed twice.

Perhaps that will be sufficient to satisfy the Paymaster General's well-known penchant for putting into the tax system deterrents to legal tax planning. However, even with those remaining penalties, new clause 5 would greatly improve the position of the group of taxpayers who seek to unwind schemes and get on with the rest of their lives. I therefore appeal to her sense of compassion. Many thousands of people, the vast majority of whom will never have indulged in any form of serious planning before, and the vast majority of whom will have no wish to go near any form of tax planning ever again, have been caught in this trap.

Photo of Geoffrey Clifton-Brown Geoffrey Clifton-Brown Opposition Deputy Chief Whip (Commons) 3:15 pm, 6th July 2005

My hon. Friend is putting across a highly technical case very cogently. Does he agree that, because of the way in which the Government have treated inheritance tax, and the fiscal drag, some people who have bought their own council houses will now come within the IHT net? There is nothing wrong with arranging one's affairs to minimise tax payable—and that is basically all that those people were doing. They should be allowed to unravel those schemes without having to pay a huge amount of double taxation, which is effectively a fine on taxpayers for arranging their affairs so as to pay the minimum amount of tax.

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

My hon. Friend is certainly right on the first count: as I said earlier, a modest three-bedroomed former council house in my constituency will certainly take an estate within the scope of inheritance tax. On his second point, there is a constant debate about the line between acceptable tax planning and unacceptable tax avoidance. That line is not clear or easily defined and those who have been involved with this Finance Bill accept that there are some difficult decisions to be made. In one sense my hon. Friend's comments are incontrovertible: people who have held up their hands and acknowledged that the game is up, and seek to unwind the schemes that they have set up in order to comply with the intention of the legislation, should not now be subject to an excessive penalty wholly disproportionate to the mischief in which they are alleged to have engaged.

I think that that is wholly unintentional, because earlier this year the Government took steps to ensure that people who made elections were not subjected to a double tax charge. I have to believe that it is the Government's intention that people should be able to unravel and escape from these schemes without facing the double tax charge. I hope that the Paymaster General will be able to confirm that this afternoon.

Photo of Geoffrey Clifton-Brown Geoffrey Clifton-Brown Opposition Deputy Chief Whip (Commons)

Is my hon. Friend aware of the old tax maxim that tax evasion is totally illegal, while tax avoidance is perfectly legal?

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

I would prefer to say that tax planning is perfectly legal. As our tax code has developed, the more convoluted forms of avoidance, while not illegal, are certainly subject to action by the Revenue. We have acknowledged during the Bill's passage that there is a constant game of cat and mouse. The Paymaster General expressed the view in Committee that she did not want to have to engage in a constant game of cat and mouse, but that, I fear, is the lot of Paymasters General, who are constantly pursuing a moving goal. Tax planning will move on and the Government and the Revenue will seek to close down the more convoluted and artificial tax-avoidance schemes. That is their right. The concern on this side of the House has always been about the degree of retroactivity in seeking to close down such convoluted tax-avoidance opportunities.

I hope that the Paymaster General will be able to say something positive to this group of 50,000-odd people who simply want to get on with the rest of their lives, having recognised that what they did in the past was unwise and has certainly not delivered any benefit. Indeed, many families have been put through enormous stress, and we are not talking about wealthy individuals with complex affairs. Many are just ordinary families. Those people are now fearful of taking any action until the Revenue confirms that there will be no double tax charge. The longer the delay in releasing the debt and unwinding the scheme, the more income tax will have to be paid on the deemed charge equal to the value of the rent of the property that they continue to live in.

In fairness to those ordinary families, I hope that the Paymaster General will be able to accept new clause 5. If not, I hope that she will at least confirm unequivocally at the Dispatch Box today that the Government will either amend the regulations or take appropriate alternative steps to allow those schemes to be quickly and effectively unwound so that there is an alternative route for those people for whom election under regulation 6 is not an appropriate exit. They should be able to unwind their schemes without undergoing the huge potential costs that the current regime imposes on them.

Photo of John Gummer John Gummer Conservative, Suffolk Coastal

First, I would like to declare a disinterest in the sense that I have never created such a trust or been a beneficiary of one, so I believe that I can be perfectly objective about the subject. Secondly, I acknowledge that I have taken part in debates on these matters before and disagreed with the Paymaster General on her definition of retrospection. I retain that belief, but I took from that debate her genuine intention to ensure that people who had perfectly reasonably entered into a perfectly proper legal undertaking would be able at least to disengage themselves from it. Although that did not overcome the problem that they would not have made the initial decision all those many years back had they been told that the terms of the agreement would be subject to retrospection, it did at least solve the problem of retrospection in the sense that, previously, they were punished for finding themselves in their current circumstances. I agree with my hon. Friend Mr. Hammond that, since then, the Paymaster General has shown herself willing to try to maintain her position.

I want to refer to three main points. First, it does not seem to me to be in any sense unpleasant to seek to allow one's children to live in the house in which they have been brought up, whereas I think that there is something wrong with a taxation system that does not view that as a natural activity. I believe that in most cases, if not all, people will already have paid tax on the money that they have invested in their houses. It is not as though they are perpetuating a non-taxable value: they have paid tax, spent money on the house and brought up their families in it. I have no difficulty in saying that there is nothing dishonourable whatever—indeed, I think that it is very honourable—in people wanting to allow their children to continue to live in that house.

Secondly, we should accept that the increase in house prices has meant that many who live in houses that are now caught by inheritance tax do so in circumstances in which they are not themselves very wealthy. They are capital rich, but may not be that well off in current terms. The children who are to inherit the house often find, for the same reason, that it is the only chance that they will ever have to live in a house of their own. They may be financially involved in the house already and may have continued to live in the house with the objective of allowing their children, in turn, to live in it. It is neither wicked nor a mark of extreme wealth to seek to achieve such a sensible end. Indeed, it is often a mark of someone who has used his taxed income properly. That becomes even more important when people do not get any mortgage relief—tax relief on the mortgage costs that people have to pay.

Thirdly, many would say that a sensible tax regime would exclude the family house in any case. I personally take the Belgian view in believing that there should be no inheritance tax at all. I believe that it is the wrong way of taxing and that there are many preferable ways of doing so. I would replace it with something different, which is not at all unreasonable. It is clearly an attractive option because Belgium attracts a large number of French people to live under its tax system. For many people, the ability to hand on what they have earned to their children is much of the reason for earning it in the first place. It is a dangerous thing for a society that does not encourage such continuity and that sort of enterprise.

Photo of Geoffrey Clifton-Brown Geoffrey Clifton-Brown Opposition Deputy Chief Whip (Commons)

My right hon. Friend is making a cogent contribution. Does he agree that many people nowadays have to work way beyond the retirement age in order to pay the mortgage on a very expensive house purely in order to pass it on to their children? If the fiscal drag that comes from the inheritance tax system continues, people may be thwarted in that aim and may well choose not to work for so long past their retirement age.

Photo of John Gummer John Gummer Conservative, Suffolk Coastal

My hon. Friend makes an important point, but I do not want to follow too far down that particular road for this reason: I am not justifying my position on inheritance by virtue of the fact that high house prices have made what is inherently wrong more obviously wrong. I want to argue something much more fundamental, which is that a society that wants to encourage stability and enterprise is a society in which the ability of families to hand on money and a home is a crucial component of that stability.

Those who believe in a property-owning democracy should not believe in a one-generation society. Those of us for whom the family is the most important element in our lives—who support marriage, want the state of marriage to be important, and want married couples to work together, so that their children can inherit from them—should be encouraged, not discouraged.

Photo of Charles Walker Charles Walker Conservative, Broxbourne

My right hon. Friend has got to the nub of the problem. We, as Conservatives, believe that the family is the most important thing in people's lives, whereas Labour believes that it is the state.

Photo of John Gummer John Gummer Conservative, Suffolk Coastal

That is not only true but self-evident. I do not wish to go down that line, but I do notice that whenever one talks about the importance of the family, of stability, of passing on what one generation has worked hard for, not a grimace but an expression of laughter appears on the faces of particular Labour Members. They laugh because they do not really understand what it is that has kept the nation stable over the generations, and which also motivates most people.

Anyone of my age who asks their friends why they are still working will discover that they are doing so because they believe that it is contributing to the continuity of their family and to the well-being of the children and grandchildren whom they care about. A state that does not take that into account is very mistaken.

This issue is important in the context of the new clause, and for two fundamental reasons. First, let us consider a situation in which someone has sought properly and in reasonable terms to make their affairs as least taxable as is proper within the regime, but who then finds that although they have done nothing illegal—indeed, the courts supported their action—they are penalised according to the vague view that everybody ought to pay as much tax as they possibly can, rather than as little as they are legally liable to pay. Such a situation undermines people's respect for the tax system. Asking people to find new ways in which to make themselves taxable does not constitute a proper tax system.

A proper tax system recognises that although people have to pay the tax for which they are liable—they might choose to vote for a party that reduces tax—they should have no reason at all to fear that if they arrange their affairs so that, perfectly properly and legally, they pay less tax than if they had arranged them otherwise, they will be penalised, including retrospectively. I do not want to discuss retrospectivity, but I should point out that I realise that the Paymaster General, whose definition of retrospectivity is wrong in both dictionary and moral terms, does not want to turn retrospectivity into a punishment in this regard.

I turn to the second and equally important issue. If people feel that they are no longer being treated fairly by the tax system, those who have always been law abiding will be less so. The fairness of a system is crucial to widespread support for it, and to objections against those who break the law. I offer a direct comparison. It is much easier to get the sympathy of one's neighbours if one drives a motor car at 32 mph in a 30 mph limit in the middle of the night than if one drives over the drink limit. The reason why is that everybody recognises—indeed, there has been a very good bipartisan campaign—that drinking and driving is dangerous and unacceptable socially. Therefore, peer pressure is very strong and properly so, particularly and noticeably among young people. If one breaks the speed limit in the circumstance that I described, people tend to feel, "Well, it was the middle of the night and nobody was around." Such an act is certainly illegal, and of course the law has to be obeyed and applied. But my point is that once there is a feeling of unfairness, the social and peer pressures reduce.

I want a tax system that is so clear, obvious and open that people believe that—whether or not they like the tax, the Government or the Paymaster General—they ought to pay it. That seems to me to be right. If they want that system changed, they should find, through the democratic system, somebody who is prepared to change it. The Paymaster General has presided over such a complication of the tax system that ordinary people with limited resources must now take legal and tax advice in a way that they never had to before.

I have said what I am about to say before, and I will go on saying it. I hope that the Paymaster General will accept it, as it is not a personal comment, but she has been in the Treasury team for a long time. Under the tax system that we now have, ordinary people who own a house that has risen in value and who earn income from more that one source need technical advice that their predecessors in history never needed. The right hon. Lady must put that and some other problems right. Above all, she must try to make things simpler. That would be very good for the nation, but very bad for accountants.

One of the lesser purposes of this House is to make life difficult for accountants. If she can do that with this measure—and at the same time ensure that lawyers also have less work—I should be very pleased.

Photo of Dawn Primarolo Dawn Primarolo Paymaster General (HM Treasury) 3:30 pm, 6th July 2005

In debates such as this, it is important to bear in mind the specifics of the matter in question. That is preferable to taking a trip down the highways and byways of the individual views held by hon. Members. Today, we are discussing the tax system, and I want to respond to the points raised by Mr. Hammond in respect of new clause 5.

Before I do so, however, I want to put something on record. I know that the hon. Member for Runnymede and Weybridge knows this, but I want to make sure that other hon. Members are also aware of the situation. New clause 5 refers to a specific action that the Government took to close double trust avoidance arrangements.

Those arrangements are very complicated, and people do not fall into them in error. Double trusts are expensive to set up, and they benefit people who want to remove £500,000 or more from inheritance tax liability, under rules that have been in place for a very long time. The arrangements apply to houses, but also to works of art, furniture and an amazing range of items. In this rather simplified presentation, however, I shall use houses as my example.

Under the double trust arrangement, people would give their house to a trust. The trust then owns the house but the deal is a paper transaction only and so no money changes hands. The trust pays with what is, in effect, an IOU, but that IOU cannot be kept by the house's original owners. Therefore, it is put into another, unconnected, trust. The original owner has neither the property nor the income from it, but is able to continue living in it, even though it has been removed entirely from the inheritance tax regime.

The Government took various steps to change the arrangements. The classic way to deal with an anti-avoidance arrangement—to which some Opposition Members object—is to introduce complex legislation targeted specifically on removing the possibility of avoidance. This time, however, the Government decided to take a different route and say that people could elect out of existing arrangements. The hon. Member for Runnymede and Weybridge spoke about unwinding, and I shall return to that later, but the Government's approach meant that people did not have to unwind arrangements that they had entered into.

As a result, people could claim, "Fair cop. We shouldn't have tax planned. We didn't mean to do it or for it to carry on into the future. We understand the point that the Government is making." If they did that, people only had to tell the Government that the double trust scheme had been cancelled. By electing out in that way, people could get back to where they should be in the inheritance tax system. That is all that we are discussing.

The hon. Gentleman gave a long explanation of various possibilities. Sometimes such trusts are set up for children, and complications arise about the age of the children and whether they can be beneficiaries. The hon. Gentleman made a point about the sequence of events, but the lesson is that anybody who is foolish enough to go in for complicated tax planning must understand how the rest of the tax system might impinge on that planning.

The hon. Gentleman raised the issue of the IOU in the second trust, depending on who died first and the age of the children, and the possibility that the spouse may be subject to charges if the IHT charge comes in earlier than expected. That point has been raised with us before, and officials at HMRC are currently discussing that point with advisers. My approach to the points that the hon. Gentleman made—and, therefore, the approach that the officials will take—is that I am not prepared to sanction further exemptions from what are very clear rules. The rules contain a clear exit—the election—but as the hon. Gentleman suggested, we have been prepared to remove double charges. When specific examples—not individual cases—have been provided that can be encompassed in the regulations and have the benefit of removing unintended consequences, I am prepared to consider them and I have asked my officials to do so.

When we consulted on the proposals, they were not greeted favourably by the tax planning industry, but that is no surprise. It was busy selling schemes that we wanted to prevent it from selling. I did not expect industry representatives to beat a track to my door to say, "Thank you, Minister. We're really pleased you did that." My officials asked the industry whether we needed to consider transitional arrangements while schemes were unwound—to address the points that the hon. Gentleman made about the possibility of an unfair double charge. At that point, the industry claimed that unwinding was impossible, because the schemes were so complicated.

Therefore, we came up with the simple proposition that the taxpayer could elect out of the scheme by a simple declaration to the tax officials that the scheme would no longer operate. The schemes did not have to be unwound and taxpayers did not have to pay for them to be unwound or pay to take advice on their unwinding. The taxpayers could sign a piece of paper, send it to HMRC and it was done. I thought that that was a good, simple way to solve the problem. However, this year, people are coming back to us and saying, "Hmm, we think we'd like to unwind. Can you give us general powers to unwind schemes?" My answer is no, for the following reasons.

Call me a cynic, but I have a horrible feeling that the sudden desire to unwind is prompted by the discovery of a way to replan. I also think that election is a good and fair answer for all taxpayers.My understanding of the main thrust of the points made by the hon. Member for Runnymede and Weybridge is that he has been briefed that there could be unintended circumstances where double or unfair taxation may arise, and the desire to avoid that is his only motivation for the new clause. It is not because he wants to return to tax planning—to go back to go. However, the regulation-making power, which the House found somewhat controversial, allows the Government to do that. There are some valid cases, one of which the hon. Gentleman put today and which my officials are taking forward. The power to make regulations remains available so that HMRC can consider using it further, if advisers who favour the unwinding route can make a detailed case that it is designed specifically to reach one end—fairness to the taxpayer—and not to open up other possibilities. That can be achieved through decent dialogue between HMRC and advisers who are concerned about the issue. That is where we are.

The hon. Gentleman does not need his new clause because the regulating powers provided enable the House to respond to detailed cases. As the arbiter on whether the regulations are made, I set a reasonably simple and straightforward test, which is the intent of the House: those who say they need such powers have to make the case for the powers and the regulations, and must demonstrate exactly which unfairness we need to address. If they can do that, and if they are open with HMRC, I shall certainly be prepared to give from the Dispatch Box the undertaking that the hon. Gentleman seeks and bring forward the exact details of precisely what is needed to address the perceived injustice. It will then be considered. But I will not give him an undertaking from the Dispatch Box that a general request for power to unwind—wherever that might take taxpayers and tax planners—would be granted, because it will not.

I hope that the hon. Gentleman will see that powers exist and that opportunities for change are in the hands of taxpayers and their advisers, and the people who are advising him. If those advisers provide the details, they will be considered and if necessary regulations will be changed to ensure that the perceived unfairness does not occur. On that basis, I hope that he will not push the new clause to a vote, but if he decides to do so, regrettably, I shall ask my hon. Friends to oppose it.

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury 3:45 pm, 6th July 2005

I am disappointed that the Paymaster General has chosen to paint as bad people those who use trusts that were perfectly legal tax-planning devices when they were set up. As I said earlier, those people have come out with their hands up; they have accepted that the trusts did not work and they now want to exit from the system.

The Paymaster General's remarks did not address the fact that the Government have already acted to offer relief to many of those people. We cannot have a situation where some of the people who set up trusts are bad people and do not deserve relief, while others are good people who can elect to escape from at least the economic effects of the arrangements that have been put in place.

The Paymaster General reiterated my words in using the phrase "unintended consequences". I have not clearly understood from her remarks that those in this group of approximately 30,000 people, for whom it is not appropriate to use the route of an election, are the products—[Interruption.] The Paymaster General asks why it is not appropriate. I have given the two most important reasons: first, the possible impact on beneficiaries of children's trust if they die within seven years; and, secondly, the advancing to the time of the first death of the charge to inheritance tax when the taxpayers involved are a couple who make an election for a property that they hold jointly. That would have the disastrous consequence of causing inheritance tax to become payable by the widow or widower of the deceased at the time of the first death—a huge cash-flow problem that would almost certainly involve the forced sale of the house. That is why I am advised that the election process is simply not appropriate for certain groups of people.

As the Paymaster General has spotted, I did not invent the new clause and the arguments that support it. We have been advised by the Chartered Institute of Taxation and the Society of Trust and Estate Practitioners, as the Paymaster General has. The arguments that I have used have already been made in detail both to the Paymaster General—

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

Well, those arguments have been made both to the Paymaster General and to senior Revenue officials. If she is not able to say something more specific about the relief that we seek for that group of people, I have to believe that the relief that she is thinking of may be very much narrower that the one that I have been seeking.

I am pleased to hear that HMRC is discussing these matters with advisers—I assume that that means with practitioners and those in the wider world outside—but the Paymaster General's commitment to addressing the full extent of the problem that I have outlined seems to be a bit less than 100 per cent. Indeed, if I have not misinterpreted her too much, she has tried to blame the whole thing on the tax advisers by suggesting that they did not identify the problems that would arise in unravelling such arrangements, so that the measures that the Government have put in place for elections have not addressed the situation in which all those people find themselves.

Although I understand very well the Paymaster General's view on tax planning—I have had four weeks in which to study her view on people who engage in tax planning—I do not think it helpful to adopt the tone that she adopted about the tax advisory industry and people who engage in what is, when they engage in it, perfectly legal tax planning, thereby taking advantage of the taxpayer's age-old right to arrange his affairs within the law to minimise his tax until such time as the Government change the law. That is the game of cat and mouse in which Paymasters General since time immemorial have been engaged.

I do not believe from the information that I have received that it is at all fair to characterise the approach that is being made—principally by lawyers, who are being consulted on ways to unwind such arrangements and get people out of the mess that they are in—as stimulated by having spotted an opportunity to undertake some alternative planning. If I may say so, perhaps seven years in post has made the Paymaster General a tad too cynical about those in the world outside.

Photo of Geoffrey Clifton-Brown Geoffrey Clifton-Brown Opposition Deputy Chief Whip (Commons)

The Paymaster General may have misunderstood the import of what she is doing in such elections. I understand that some form of court order will be required to break such trusts. That is the only way a trust can be broken. Therefore while she may have mitigated the tax problems, she has not dealt with the future problem of double taxation—the fine—if a second death occurs after the trust is in place.

Photo of Philip Hammond Philip Hammond Shadow Chief Secretary to the Treasury

I am sure that my hon. Friend is right to suggest that a court order might be required to break a trust, but I cannot comment on that. My understanding is that the new clause would provide an effective route which, in substance, would reverse the transactions and create precisely the situation that would have existed had the arrangement not been entered into in the first place. That is to say, the settlor would be liable for inheritance tax on the value of the house, but there would be no tax liability on the now cancelled debt. I should say that things would not be quite as they would have been before, because the settlor would still be disadvantaged in the ways that I outlined earlier. There would be an element of penalty that perhaps would satisfy the Paymaster General's general view that people should be deterred from engaging in tax planning by finding it expensive to exit from retrospective taxation arrangements once they are imposed.

The Paymaster General did not give a time scale for the relief that she will possibly be able to introduce, and the time scale is extremely important. We are talking in many cases not about very wealthy people, but about people living on quite limited incomes who will now be required to meet an income tax charge until they have unwound these schemes.

The Paymaster General did not attack the new clause itself, and it was drafted by a senior legal professional. Although I accept her intention to look at the matter further, I shall ask my hon. Friends to vote to indicate the strength of feeling that exists in the House and outside and to help to stiffen the Government's resolve as they take the matter forward.

Question put, That the clause be read a Second time:—

The House divided: Ayes 153, Noes 340.

Division number 32 Orders of the Day — Finance Bill — New Clause 5 — Inheritance Tax: Mitigation of Double Charges

Aye: 153 MPs

No: 340 MPs

Ayes: A-Z by last name


Nos: A-Z by last name


Question accordingly negatived.