The First-tier Tribunal (FTT) decision in The Executors of Elborne & Ors v Revenue And Customs [2023] UKFTT 626 (TC) marks an important stage in the home loan scheme (HLS) litigation. It comes hard on the heels of the decision in the favour of HMRC in Pride v The Commissioners for Her Majesty’s Revenue and Customs [2023] UKFTT 316 (TC), as well as HMRC’s earlier success in the case of Shelford and others v HM Revenue and Customs [2020] UKFTT 53 (TC). 

Many taxpayers and their advisers are currently unsure what to do in relation to legacy HLS cases. Accordingly, ICAEW sought confirmation from HMRC for an update in the light of the recent decisions. 

A spokesperson for HMRC has confirmed that HMRC welcomes the FTT decisions, which confirmed HMRC’s longstanding view that properties subject to these arrangements remain an asset of an estate on death and are subject to inheritance tax. The decision in Elborne is under appeal. In light of that, HMRC is not updating its guidance for the time being. The unwinding agreement set out within HMRC’s manual pages will remain, and any scheme unwound under the terms of that agreement while in place will be honoured.

In view of this, it will be useful to review the three FTT cases, culminating in the Elborne decision.

Home loan schemes in outline

There was no one single HLS scheme, but they all followed a similar template. Typically, the planning involved parents, whose main family asset was their home and who wanted to benefit their children while continuing to live there. These schemes predate the introduction of the inheritance tax (IHT) transferable nil rate band and residence nil rate band. 

Usually, the parents would sell their home to a settlement under which they enjoyed a qualifying interest in possession (QIIP), relying on private residence relief to avoid a charge to capital gains tax (CGT). Sometimes this was for a promissory note payable following the death of the last surviving spouse. There was no immediate charge to stamp duty as a result of a technique known as resting in contract, which meant that completion of the sale was deferred. Typically, the parents gave the debt to a QIIP trust in favour of their adult children, meaning that IHT potential exemption applied. The parents lived in the property that formed part of their estates. The debt was intended to act as an offset on the death of the survivor of the parents.

There were variations on a theme. In some cases, simple debt was used. In others, the debt was configured as a deeply discounted security, or a tripartite loan arrangement was used. All variants faced a possible future CGT charge because the debt was acquired by the children’s trust at a discounted value given the likely delay in repayment. So, when the debt was repaid, or a disposal otherwise took place, there could be a charge to CGT. 

Debt configured as a deeply discounted security swapped a potential CGT charge on repayment for an income tax charge; this was then avoided by subsequently waiving the debt. In the case of a tripartite loan arrangement, the parents sold their home to a property trust under which they had a QIIP, but the benefit of the debt was received by the trustees of the children’s trust as original creditors so no charge to CGT arose on repayment.

These schemes were widely marketed until about 2003 when the introduction of stamp duty land tax made them unattractive. They also suffered the disadvantages of being a ‘slow burn scheme’. Over time HMRC has been able to introduce anti-avoidance provisions that have chipped away at the effectiveness of these arrangements. 

A case in point was the introduction of pre-owned assets tax, which imposes an income tax charge with effect from 2005/06 where a donor continues to benefit from certain types of property, including residential property.

HMRC challenged HLSs on several grounds but mainly by reference to:

• the gift with reservation of benefit rules; and 
• the rules that seek to disallow or limit certain debts as a deduction, initially under s103, Finance Act 1986 (FA 1986), and then later by reference to s175A, Inheritance Tax Act 1984 (IHTA 1984), inserted by Finance Act 2013.

These schemes were complex, and it appears that some were not always implemented in a systematic manner. This aspect features in two of the reported cases. HMRC’s stance towards HLS planning has been resolute. When challenged, the cost of litigation has often been beyond the means of many taxpayers. It is only recently that the first cases have been heard by the FTT. 

The Shelford case

The FTT decision in Shelford is considered in my article What lessons can be learned from the first home loan scheme case? In Shelford there were a number of glitches with the contract for the sale entered into by Mr Herbert and the trustees. This caused the judge to find that the true effect of the sale agreement and the loan agreement (when read together) was that Mr Herbert agreed to sell his house to the trustees, with completion to occur (and the consideration paid) on notice following his death. 

These glitches meant that s2, Law of Property (Miscellaneous Provisions) Act 1989 was not satisfied. This requires all of the sale conditions to be expressly agreed in one document, or where contracts are exchanged, in each. This caused me to suggest that it would be important in future cases to have regard to the way that the tax planning arrangements are implemented in practice. Also, that it would be reasonable to assume that HMRC will want to scrutinise the way that other HLS cases were implemented. These themes reappear in the Elborne case.

The Pride case 

Mrs Pride died on 31 October 2016 with a QIIP in the property trust. Deeply discounted debt in the form of loan notes was issued to a trust for her children. The property trust was the debtor in relation to the loan notes arising from various property transfers made by her in 2002. 

The ruling by the FTT includes an innovative element. The tribunal decided that the loan notes were to be treated as a liability having been incurred by Mrs Pride. This was in spite of the fact that at the time she was to be treated as having incurred the debt in 2002, she was herself the creditor. The FTT considered that the effect of the interest in possession rules was to bring the trust assets and liabilities into Mrs Pride’s estate for IHT purposes (see s49(1), IHTA 1984). This caused the tribunal to conclude that she should also be deemed to have incurred the indebtedness represented by the loan notes, bringing s103, FA 1986 into play. The net effect was that the loan note liability had to be abated in its entirety and the scheme failed.

The FTT also considered whether, in the alternative, the existence of the debt would be ignored by operation of s175A, IHTA 1984. The point that brought this into focus was that loan notes were released in 2017, so could never be discharged as required by statute. The FTT found that the main purpose behind the release was to avoid an income tax charge that would have arisen when the loan notes, as deeply discounted securities, were discharged. This led the FTT to conclude that, had it not found that the debt was to be abated in its entirety by reason of s103, FA 1986, s175A, IHTA 1984 would have applied to the same net effect. 

HMRC’s argument that the gift with reservation of benefit rules applied was unsuccessful (s102, FA 1986). HMRC argued that the loan notes were not enjoyed by the children’s trust to the exclusion of Mrs Pride and any benefit to her. HMRC argued that Mrs Pride’s occupation of the property placed a restriction on the loan notes she had given to the trustees of the settlement in favour of her children. The FTT considered this argument failed, because it was the conditions that applied to the loan note that stipulated how and when the loan notes would be repaid. The mere fact that Mrs Pride occupied the property as a beneficiary under the terms of the trust did not trench upon the enjoyment of the loan notes by the trust in favour of her children.

HMRC also presented a “recharacterisation” argument for the purposes of the gift with reservation of benefit rules, whereby the disposal of the property to the property trust and the sale for the loan notes and their subsequent gift to the children’s trust could be melded together. The argument here was that what really happened was that the property was given to the children’s trust, but Mrs Pride continued to enjoy a benefit in the property so that the gift with reservation rules applied. This was rejected by the FTT as not representing a “realistic” view of the facts.

So, in summary, the debt in relation to the property was abated to nil under s103, FA 1986. The same net effect would have applied under s175A, IHTA 1984 in any event. However, importantly, the gift with reservation of benefit rules were held not to apply. 

The Elborne decision

The facts here were less tidy than the Pride case, which led HMRC, stopping short of alleging that the documents were shams, to suggest that there was never any intention on the part of the parties in implementing the scheme to comply with the terms of the scheme documents. However, the FTT found as a fact that the parties implementing the arrangements had intended to so comply. This intention remained in existence at the time of the death of Mrs Elborne, who held a QIIP in the property trust at that time. Also, the trust deed establishing the children’s trust, the assignment of the debt to it, and various related resolutions were effective in or about early February 2004 – not on 8 December 2003, as dated.

HMRC sought to argue, as it had done in the Shelford case, that the sale agreement was void under s2, Law of Property (Miscellaneous Provisions) Act 1989 because the terms of the sale agreement did not incorporate and were inconsistent with the terms of the sale. HMRC identified what it considered to be 11 inconsistencies or omissions. The FTT concluded that the sale agreement was valid and enforceable, and that the scheme documents had the effect in law that they purported to have.

As in the case of Pride, HMRC argued that the gift with reservation of benefit rules applied. Like Pride the argument failed because Mrs Elborne was treated as beneficially entitled to the whole of the property by virtue of interest in possession rules as a result of her QIIP. The FTT also followed the decision in Pride that Mrs Elborne was to be treated as having incurred the loan note liability for the purposes of s103, FA 1986 with the result that the liability should be abated in its entirety. This was sufficient to resolve matters in HMRC’s favour.

A conundrum

There was one aspect that seemed to cause the FTT some pause. Had the FTT determined the appeals on the basis that HMRC had succeeded in relation to both the abatement of the debt (as a result of s103, FA 1986) and the inclusion of the value of the debt in the estate (under the gift with reservation rules) there would have been a large potential element of double taxation. It would have increased the value of Mrs Elborne’s estate by twice the value of the loan note. The double charges regulations made under s104, FA 1986 did not appear to deal with this possibility. The FTT observed that it would be a surprising result and quite unwelcome to the executors. 

In practice, the two provisions do different things. The gift with reservation rules add the value of an asset back into an individual’s estate, whereas s103, FA 1986 causes the value of a debt to abate. The FTT commented that there is no reason in principle why that outcome should not arise [at 243], which would result in an element of double taxation. This was resolved in favour of the executors on the basis that the gift with reservation rules were not engaged because Mrs Elborne already enjoyed a QIIP in the property prior to the gift of the loan notes to the children’s settlement, so it was already included in the value of the estate without resort to the gift with reservation of benefit rules.

The bigger picture

The question that taxpayers and their advisers will now be considering is what to do in relation to HLS cases that have not yet been unwound. There can be no hard and fast rules because of the range of HLS arrangements that were implemented. In some cases, the residence nil rate band might offer an effective solution, albeit there is no guarantee that it will continue to be available following a possible change in government following the next general election, which must be held no later than January 2025. 

HMRC has confirmed that it will stand by the agreement set out within HMRC’s manual pages. Any scheme unwound under the terms of that agreement while in place will be honoured. It will be important to establish what this might mean in individual cases. 

Hard choices may now have to be made in the light of the Elborne case before any decision is reached by the Upper Tribunal (UT). If HMRC is successful at the UT, it is likely that its guidance – and hence the agreement contained within it – would be changed accordingly. If so, that window of opportunity would close.

Andrew Cockman, Director Personal Tax Advisory, Azets Birmingham, and a member of the Tax Faculty’s Private Client Committee