Mark McLaughlin looks at the ‘related property’ rules for inheritance tax purposes and their potential effect when valuing property jointly owned by spouses or civil partners.
It is common for married couples (or civil partners) to own assets jointly (e.g., the family home). On the first spouse to die, the question arises whether the market value of their property interest can be discounted for inheritance tax (IHT) purposes to reflect the fact that they did not own the whole property (such that the consent of the surviving spouse would have been needed before the property could be sold).
Is it ‘related’?
There are special IHT rules for valuing property in an individual’s estate if there is other property ‘related’ to it (IHTA 1984, s 161). These rules can apply where valuing the property together with the related property produces a higher IHT valuation than by valuing the property on its own (although where the deceased’s interest passes to the surviving spouse, the related property rules may not apply, due to the spouse IHT exemption).
Property is ‘related’ broadly if it is in the estate of a spouse (or civil partner); or if it is (or was in the previous five years) the property of a charity or certain other bodies as the result of an exempt transfer by the individual, spouse, or civil partner.
Applying the rules
If the related property rules apply, the ‘appropriate portion’ of the value of the combined property is included in the person’s estate for IHT purposes. There are two methods of calculating the ‘appropriate portion’; what HM Revenue and Customs (HMRC) refers to as the ‘general rule’, and the ‘special rule’ (see HMRC’s Inheritance Tax Manual at IHTM09734).
The general rule is used where items of property being valued are different, such as separate interests in the same property (NB, the special rule is mainly used for calculating the value of shareholdings, and is not considered here).
Example: The family home
Mr and Mrs Smith owned their family home in equal shares as tenants-in-common. The entire property was valued at £800,000 on Mrs Smith’s death. However, each half-share was valued independently at £340,000. Mr Smith (as executor and trustee of his late wife’s estate) used the valuation of £340,000 for the purposes of the IHT return for Mrs Smith’s death estate.
However, HMRC considered that the ‘general’ related property rule applied, resulting in a higher valuation of £400,000 for IHT purposes.
The above example is loosely based on Price v HMRC [2010] UKFTT 474 (TC). In that case, the First-tier Tribunal held that the related property provisions hypothesise a notional sale and that the property interests were to be valued on the basis that they are offered for sale together and at the same time. If this resulted in a greater price than if the interests had been offered individually, then (if the sale would not have required undue effort or expense) the greater price must be attributed to the two items (i.e., by applying the ‘general rule’).
Practical tip
The related property rules can result in higher IHT values than expected (NB, expert professional valuations are strongly recommended). However, if property in the death estate is valued under the related property rules and is subsequently sold for a lower amount within three years of death, ‘related property relief’ may be claimed if certain conditions are satisfied (see IHTA 1984, s 176, and IHTM09751 onwards).
