Shelford & Ors v Revenue & Customs (INHERITANCE TAX - avoidance - "home loan scheme")

Factual and Procedural Background

This appeal concerns inheritance tax ("IHT") determinations issued by HM Revenue and Customs ("HMRC") on 22 August 2016 under section 222 of the Inheritance Tax Act 1984 ("IHTA"), disputing an IHT liability of £560,000. The determinations were addressed to four Executors of the deceased and the surviving trustee of a settlement created by the deceased in 2002. A single formal notice of appeal was submitted on behalf of the five appellants on 21 September 2016, with a review outcome upholding the determinations notified on 14 November 2016. The appeal was lodged with the Tribunal on 6 December 2016.

The dispute concerns the correct IHT treatment of a planning arrangement entered into by the deceased in 2002, referred to by HMRC as the "Home Loan Scheme" in their 2006 guidance on Pre-Owned Asset Tax ("POAT"). The arrangement aimed to remove the value of the deceased's home from his estate for IHT purposes, while allowing him to live rent-free in the home for life.

The deceased owned a freehold house ("the House") and established a Trust ("the Trust") with the deceased and a solicitor acting as trustees. The deceased agreed to sell the House to the Trustees for £1,400,000, payable on completion, with completion deferred until notice following the deceased's death. A loan agreement was executed whereby the deceased lent £1,400,000 to the Trustees on interest-free terms, repayable by written demand only after his death. The deceased assigned his interest in the loan to his three children. The deceased continued to occupy the House without paying rent and remained the registered proprietor until after his death.

The Trustees did not pay the purchase price or deposit, and the sale completion notice was never served. The House was sold to third parties in 2016 after legal title was transferred to the Trustees. The loan repayments were demanded and paid to the deceased's children and daughter-in-law in 2018.

The Tribunal heard evidence including expert valuation of the loan, which was unchallenged. The Tribunal considered whether the sale and loan agreements were genuine or a sham, the validity of the sale agreement under section 2 of the Law of Property (Miscellaneous Provisions) Act 1989 ("LPMPA"), and the application of section 163 IHTA regarding restrictions on freedom to dispose of property. The Tribunal also considered the IHT consequences if the sale agreement was valid.

Legal Issues Presented

1. Whether the sale agreement and loan agreement between the deceased and the Trustees constituted a valid binding contract for the sale of the House.
2. Whether the agreements were shams or mislabelled agreements, affecting their legal effect.
3. The impact of section 2 LPMPA on the validity of the sale agreement.
4. The application of section 163 IHTA in valuing the deceased's estate where the right to dispose of property is restricted by contract.
5. The inheritance tax consequences of the arrangements, including whether the House formed part of the deceased's estate and the effect of the assignment of the loan benefit to the deceased's children.

Arguments of the Parties

Appellants' Arguments

• The deceased agreed to sell the House to the Trustees for £1,400,000 payable forthwith, and the Trustees agreed to pay the purchase price.
• The deceased lent £1,400,000 to the Trustees under the Loan Agreement, repayable only after his death.
• The obligations under the Sale Agreement and Loan Agreement were linked and effectively set off against each other.
• The Trustees acquired an equitable interest in the House upon exchange of contracts, with a right to completion enforceable by specific performance.
• The deceased assigned the benefit of the Loan Agreement to his children, constituting a gift of the right to the sale proceeds.
• The agreements should be read together as a single arrangement, reflecting the parties' true intentions.
• The Sale Agreement was valid and complied with section 2 LPMPA, either standing alone or incorporated by reference into the Loan Agreement.
• The arrangements did not reduce the value of the deceased's estate for IHT purposes, as the deceased retained an interest in possession under the Trust.
• Section 163 IHTA should not apply to uncompleted contracts for sale, distinguishing such contracts from options.

Respondents' Arguments

• The Sale Agreement and Loan Agreement were mislabelled and should be read together as a composite transaction with completion and payment deferred until after the deceased's death.
• The Sale Agreement was void for non-compliance with section 2 LPMPA, as it did not incorporate all agreed terms.
• The agreements were not shams but contained provisions that did not have the legal effect they purported to have.
• The deceased's right to dispose of the House was restricted by the agreement, engaging section 163 IHTA.
• The value of the House at death should be included in the deceased's estate without deduction for the unpaid purchase price.
• The assignment of the loan benefit to the children was a gift of a right with significant value, not negligible.
• The stamp duty paid on the transfer of legal title to the Trustees was not an allowable expense for IHT purposes.

Table of Precedents Cited

Court's Reasoning and Analysis

The Tribunal carefully analyzed the terms and effect of the Sale Agreement and Loan Agreement, concluding that the two documents must be read together as a single composite agreement. The parties never intended for the purchase price to be paid immediately; rather, completion and payment were to occur upon notice after the deceased's death. The arrangements aimed to defer payment and transfer of title.

The Tribunal rejected the application of set-off principles under Spargo's Case because the flow of funds did not constitute mutual debts between the same two parties but involved a third party holding the deposit as stakeholder. It also rejected the argument that the Loan Agreement discharged the Trustees’ obligation to pay the deposit under the Sale Agreement, relying on commercial common sense and prior case law emphasizing that refinancing or notional settlements do not amount to discharge without actual payment.

The Tribunal considered whether the agreements were shams but found no evidence that the parties had a common intention to create false appearances, noting sham was not pleaded by HMRC and thus no such finding was made. Instead, the Tribunal accepted the submissions that the agreements were mislabelled, containing provisions inconsistent with the parties’ true intentions and actions.

Applying the principles from Antoniades, the Tribunal held that the Sale and Loan Agreements were to be treated as a single transaction with completion deferred until after the deceased's death. The assignment of the loan benefit to the children was a gift of the right to the sale proceeds.

On the validity of the Sale Agreement under section 2 LPMPA, the Tribunal found the agreement void because it did not incorporate all expressly agreed terms in a single document or by proper reference. The recitals in the Loan Agreement did not constitute incorporation by reference. The written documents did not reflect the true agreement, leading to non-compliance with the strict requirements of section 2.

Consequently, the Deed of Assignment was also void as it had no valid underlying sale or loan benefit to assign.

In an alternative analysis (assuming the Sale Agreement was valid), the Tribunal found that the House would still form part of the deceased's estate at death, subject to a contractual restriction on disposal. The deceased retained beneficial ownership and use of the House until death, with the equitable interest passing only upon completion after death.

The Tribunal applied section 163 IHTA, concluding that the deceased’s right to dispose of the House was restricted by the agreement, and thus the full value of the House at death must be included in the estate for IHT purposes. The Tribunal rejected the appellants’ argument that section 163 should not apply to uncompleted contracts for sale, finding no textual or principled basis for such a limitation and noting that similar counter-intuitive results arise under section 163 with options.

Regarding the valuation of the gift to the children, the Tribunal accepted expert evidence valuing the loan benefit at £532,000, rejecting the respondents’ submission that it had negligible value.

The Tribunal also addressed the issue of stamp duty on the transfer of legal title to the Trustees, finding that stamp duty paid by the Trustees was not an allowable deduction against the value of the settled estate for IHT purposes, as it was not an expense incurred by the deceased or his estate.

The Tribunal noted the risk of economic double taxation arising from the scheme, cautioning that tax avoidance arrangements may result in higher tax liabilities.

Holding and Implications

The Tribunal held that the Sale Agreement was void for non-compliance with section 2 LPMPA, and consequently the House formed part of the deceased's estate at death. The Deed of Assignment was also void. The deceased did not dispose of the House, and thus there was no liability for POAT or capital gains tax on the purported sale.

The HMRC inheritance tax determinations must be varied to reflect these findings.

The Tribunal left it to the parties to agree the terms of the variations, including any entitlement to refunds of prior POAT or capital gains tax payments, but made no findings on these points due to lack of argument.

If the parties cannot agree, the Tribunal will decide on the necessary variations upon application.

No new legal precedent was established; the decision applies established principles of contract validity, sham and mislabelling, and statutory interpretation of IHT provisions.