Steve Lodge: Wealth Questions

Wealth Questions (July 25/26) said that to make gifts that are free of inheritance tax (IHT) out of surplus income, the funds should have been retained in a current account – even where the gift is a lump sum rather than a regular payment. My mother pays her private pension into a savings account and lives off her state pension. She has made a gift from her savings account, so will HM Revenue and Customs (HMRC) argue this was a gift out of capital – and therefore potentially subject to IHT?

Christopher Groves of Withers, the solicitors, says that the law on this point is not entirely clear. For the purpose of the exemption, income is generally taken as meaning current income. The exemption will therefore not normally be available if the gift is made from a source that was originally income but which has been retained and has acquired a capital nature, such as income that has been accumulated in a savings account.

However, simply transferring funds from a current account to a savings account does not mean income is no longer current income: HMRC accepts that invested sums may retain their income character if the transferor was saving them temporarily, but will resist claims for gifts made out of several years of accumulated income.

In your mother’s case, as the income in question is paid directly to the savings account, this would suggest that this account should be treated as a “current income account” for tax purposes, if not an actual “current account” for banking purposes.

Ideally, gifts should be made from a current account before the funds are transferred to a savings account as, in such cases, HMRC is unlikely to challenge the availability of the exemption on the basis that the gift was not out of current income.

However, you will still need to ensure the gifts meet the other conditions to qualify for the exemption, including that they are of habitual nature.

Can I offset garage repair?

I bought a property in the UK in September 2007 with the aim of qualifying for “furnished holiday letting” tax breaks. I have almost finished repairing and refurbishing it, with only the garage left to do, although I started commercial lettings last summer. Should I ensure that this expenditure – about £25,000 – occurs before April 2010 to take advantage of the tax breaks that are then due to end, specifically offsetting losses made on the property against my employment income? The garage is pretty dilapidated and will have to be largely taken down. Do you think this work will qualify as a repair or as a capital allowance type of expenditure?

Ronnie Ludwig, partner at Saffery Champness, the chartered accountants, says that to qualify as a furnished holiday let (FHL) the property must be available to let for at least 140 days in a year and let for at least 70 days.

The main tax break is the ability to set losses against other income but from April 6 2010 this relief will only be available against future rental profits. When calculating the allowable loss for tax purposes, you can include maintenance, cleaning, insurance and advertising costs. Improvement costs such as the work on your garage are unlikely to be included.

If the garage was in a dilapidated condition when you bought the property, the cost of bringing it back to a lettable condition is likely to be viewed by HMRC as capital expenditure. To the extent that the expenditure is on refurbishing the fabric of the garage, it will not be eligible for any capital allowances and will instead be added to the cost of the property for future capital gains tax purposes.

However, if the refurb-
ishment includes the installation of plant and machinery, then some capital allowances, at a rate of 20 per cent of the improvement costs, may be due on the furnishings and fittings, provided the expenditure is incurred before April 2010.