In this section
Briefly by s.161 IHTA 1984 property is related to property in a person's estate if:
- it is comprised in the estate of that person's spouse or civil partner; or
- it comprises, or has comprised within the preceding five years, property donated by either spouse or civil partner after 15 April 1976 to a charity, charitable trust or to one of the political, national or public bodies to which exempt transfers may be made.
HMRC(IHT) will decide what property is to be regarded as related property.
15.2 Rule for valuation of transferor's property
S.161 applies a special valuation rule where a transferor's estate contains, whether before or after a transfer of value, any property which would realise an enhanced price if sold together with "related property".
The rule is, briefly, that where the value of any property comprised in a person's estate would be less than the appropriate portion of the aggregate value of that property and any related property, the value shall be the appropriate portion of that aggregate.
15.3 Purpose of the Rule
The rule is intended to prevent the reduction in value, for IHT purposes, of property by fragmentation of ownership, aimed at passing the family estate within the family at minimum charge to IHT . The fact that transfers between spouses or civil partners are exempt from IHT would enable the prior fragmentation of the estate between spouses or civil partners to take place at no cost in IHT. Controlling shareholdings could be split into minority holdings, farms into isolated fields, buildings or building plots severed from essential access etc. The application of the rule has the effect of recombining the spouses' or civil partners’ ownerships for valuation purposes.
15.4 When Rule is not applicable
The rule does not apply if the value arrived at by s.161 apportionment is equal to or less than the value of the transferor's property on its own. In other words the rule does not apply if the transferor's property would not realise a better price by being sold with the related property.
15.5 The enhanced value of the aggregate of the transferor's and the Related Property
In applying the special valuation rule the first step is to value the property in the transferor's estate together with the related property (the aggregate referred to in s.161(1)). For this purpose the DV should value both interests together, as if already merged, and make no reduction in the aggregate value because the related property is owned by the spouse or civil partner and not by the transferor. If vacant possession would become available on the merging of the interests the property should be valued with vacant possession. In all cases the aggregate value should reflect the full enhancement attributable to the merging of the transferor's property with the related property and no deduction should be made because more than one ownership is involved.
15.6 Calculation of the appropriate portion
The next step is to arrive at the "appropriate portion" of the enhanced aggregate value referred to in para 15.5 above, which is to be attributed to the transferor's property.
- For Unequal Items of Property
For disparate or unequal items of property the "appropriate portion" is determined in accordance with s.161(3) by applying the formula:
A = the enhanced value of the aggregate of the transferor's property and the related property, the aggregate being valued in accordance with para. 15.5 above,
T = the value of the transferor's property, and
R = the value of the related property
Both T and R are valued separately as if each property did not form part of the aggregate (see para.15.7 below).
HMRC(IHT) will calculate the appropriate portion based on the DV's valuations for T, R and A.
- For Equal Items of Property with Similar Attributes
For items of property which are equal in quantum and have similar attributes, (eg equal undivided share interests) the appropriate portion will be calculated by HMRC(IHT) and the DV will only be required to report to HMRC(IHT) an opinion of the aggregate value in accordance with para 15.5 above.
15.7 Separate valuation of the transferor's and the Related Property
In valuing separately the transferor's interest in the property (T in the formula at para 15.6) and the spouse's or civil partner’s interest (R in the formula) as if each property did not form part of the aggregate, the DV should value each interest in turn, as at the date of transfer, but they should not be regarded as being on offer at one and the same time. As the value of each interest is taken in turn any likely bid of one spouse or civil partner for the interest owned by the other spouse or civil partner should be taken into account.
15.8 Valuation example
For a valuation example illustrating the application of the special valuation rule of s.161 see Appendix 28.
15.9 Value of the aggregate
Where the undivided shares held by the spouses or civil partners add up to the entirety of a property the value of that entirety (with vacant possession if applicable) will represent the aggregate value for the purposes of s.161(1). If the sum of the spouses' or civil partners’ undivided shares is less than the whole, in order to arrive at the aggregate value the spouses' or civil partners’ shares should be treated as merged in accordance with para 15.5 above.
15.10 Appropriate portion of the value of the aggregate
HMRC(IHT) is of the view that s161(4) IHTA may apply to undivided shares in real property, namely the value of the merged shares needs to be ascertained and then apportioned rateably
The High Court decision in Arkwright and Another v Inland Revenue Commissioners was handed down on 16 July 2004. The appeal had earlier been heard by the Special Commissioners, who found HMRC could not rely on s161(4), in the case of incorporeal shares of land. The Special Commissioner found that whilst the measure could apply to property, which had a distinct or individual existence as a unit, such as unit trusts or a set of furniture (for example twelve dining chairs), it did not apply to fractions of units. HMRC did not pursue this point when its appeal was heard by the High Court.
HMRC subsequently received legal advice that s161(4) may, in fact, apply to fractional shares of units and on 27 November 2007 issued Revenue and Customs Brief 71/07. This brief stated that for all Inheritance tax cases where the account is received after the publication date, HMRC would consider applying s161(4), where undivided shares in land are involved.
e.g. A transferor owns a 95% share in a house and his wife owns the other 5% share. The entirety is valued at £500,000. The relative values would be apportioned as follows:
Husband’s share £500,000 x 95% = £475,000
Wife’s share £500,000 x 5% = £ 25,000
15.11 Cases where “Arkwright” may apply
Revenue and Customs Brief 71/07 stated that cases concluded after 16 July 2004 and where accounts were received prior to 27 November 2007 would be dealt with on the basis of the Special Commissioners’ decision in the Arkwright case as it relates to the interpretation of section 161(4).
Any cases which are to be agreed on this basis will be routed via CEO Trechnical Section. If the parties argue that “Arkwright” should be applied and the case has not been routed via CEO, DVs shoulld seek advice from CEO Technical Section.
Where related property consists of a separate estate or interest in the transferor's property (eg a freehold reversion, a leasehold or a tenancy) the principles set out in para 15.5 apply. For example, if a transferor had leased freehold premises to a spouse or civil partner the lease would be regarded as having merged with the ownership of the freehold and the s.161(1) aggregate value would be the freehold vacant possession value of the premises. However in order to arrive at the appropriate portion under s.161(3) of the value of the aggregate, the transferor's freehold should be valued subject to the lease. Similarly the spouse's or civil partner’s leasehold interest would be valued separately. In valuing both the freehold reversion and the lease as if it did not form part of the aggregate under s.161(3) consideration should be given to the possibility that either the freeholder or leaseholder would be in the market as a special purchaser of the other interest in order to merge the interests and thus obtain vacant possession.
S.176 provides relief in cases where property, which has been valued on a death with related property, is sold within three years after the death as a separate interest, and the price realised is less than that determined for IHT purposes. (See Section 12).
15.14 HMRC(IHT) to indicate Related Property when known to them
When HMRC(IHT) are aware that related property is involved (normally those cases in which the transferor's spouse or civil partner owns an undivided share or a separate estate or interest in property comprised in the transferor's estate) they will endorse the papers with the words "related property" and give full details of the related property concerned.
15.15 DV aware of Related Property not indicated by HMRC(IHT)
If the DV is aware that the transferor's spouse or civil partner owns property (not referred by HMRC(IHT) as "related property") and the transferor's estate would realise a better price if sold together with the spouse's or civil partner’s property the papers should be returned to HMRC(IHT) with a memorandum giving details of the "related property" and await their instructions. No enquiries should be made of the parties concerning the apparent existence of such related property unless authorised by HMRC(IHT); nor should any special search of office records be instituted for this purpose without a specific request from HMRC(IHT).
15.16 Valuations required by HMRC(HT)
Whenever the related property valuation rule applies HMRC(IHT) will require the DV's report of the value of the aggregate of the transferor's and the related property. Where the transferor and spouse or civil partner own property jointly as equitable tenants in common and a chargeable transfer is involved HMRC(IHT) will ask the DV for the entirety value of the property, with vacant possession if applicable. If the transferor's spouse or civil partner holds a separate interest in the transferor's property or owns other property HMRC(IHT) will additionally ask the DV for separate valuations of the transferor's and the related property as if not part of the entirety or aggregate so that they may calculate the appropriate portion attributable to the transferor's property in accordance with s.161(3). See paras 15.6 and 15.7 above.
15.17 S.161 valuation rule not applicable
In every related property case the DV will first have to decide whether a better overall price would be realised if the transferor's property and the related property were sold together. If not, the transferor's property should be valued without applying the special valuation rule of s.161 and the Opinion of Value should be amplified to this effect, in accordance with section 27 para 27.72.
15.18 Aggregate valuation of transferor's and the Related Property
In cases where the s.161 valuation rule has been applied the DV should report the s.161(1) aggregate valuation, in accordance with section 27 para 27.72.
15.19 Separate valuations
The separate valuations of the transferor's property and the related property under s.161(3) should be reported, in accordance with section 27 para 27.72.