Question proposed,That the clause stand part of the Bill.

With your permission, Mr Amess, I would like to group comments on clauses 175 and 176 together as they deal with the same issue.

Yes, that is quite acceptable.

Thank you. Clauses 175 and 176 introduce inheritance tax provisions that affect individuals who are not domiciled in the UK but who are, or have been, married to, or in a civil partnership with, someone who is domiciled in the UK. While the Chartered Institute of Taxation described the measures as “long overdue”, it highlighted a number of concerns, which, if addressed, it believes would improve the legislation. I felt that it would be useful for the Committee to put those to the Minister to gauge his response.

Under the new election regime, elections made while both of the couple are still alive will take effect for transfers on or after the date of election. Where there has been a transfer as a result of the death of a UK domiciled individual, a surviving non-UK domiciled spouse or civil partner may elect to be treated as UK domiciled for inheritance tax purposes from the date of death. Elections that follow a death will be valid only if they are made within two years of the death.

While a two-year requirement will suffice in most cases, the chartered institute raised concerns that some unfairness could arise. What would happen if there has been a claim under the Inheritance (Provision for Family and Dependants) Act 1975 where time limits run from the date of the grant, not death, because that might not be resolved until some considerable time later? The institute gives detailed examples of the effect of that in practice, but, ultimately, urges that the difficulties raised by the varying circumstances that could apply could be met simply by adopting a more flexible approach, similar to that already contained in the Inheritance Act 1984, which permits:

“such longer period as an officer of Revenue and Customs may in the particular case allow.”

That allows for discretion to be applied where an unfair situation would otherwise be created.

Will the Minister clarify whether consideration has been given to a more flexible approach? Will he also tell us why the provision has not been structured so that it is the transferee’s domicile and relationship status at the time of the transfer that is relevant, rather than that when he or she makes the election?

One final point: the tax information and impact note states that this measure is necessary to comply with EU law. Once again, the chartered institute raised the concern that it does not feel confident that the measure will make the law EU-compliant. It suggested why that is, and why it will remain problematic for the Government, and that it is at risk of further cost, further EU challenges and perhaps further debates when we gather again this time next year to discuss how to repair the legislation in the next Finance Bill. What consideration has been given to the concerns raised by the institute regarding EU compliance? What steps have been taken to address them? If none have been, why not?

Clauses 175 and 176 will reform the inheritance tax treatment of transfers between UK-domiciled individuals and non-UK-domiciled spouses  or civil partners. The changes under clause 175 will allow individuals who are not domiciled in the UK but who have a UK-domiciled spouse or civil partner to elect to be treated as UK-domiciled for the purposes of inheritance tax. Clause 176 will increase the lifetime limit on transfers between a UK-domiciled spouse or civil partner and their spouse or civil partner domiciled elsewhere, setting the cap at a fair, realistic and appropriate level. We are making those changes to ensure fairness in the UK tax system and to address EU concerns regarding existing legislation.

Transfers between UK-domiciled spouses and civil partners are usually exempt from inheritance tax, but where the transferor is domiciled in the UK and the spouse or civil partner is not, the exemption is capped at £55,000. The cap is to prevent assets that would be subject to inheritance tax on death being moved overseas to avoid UK tax. I am sure that hon. Members will agree that that is a sensible principle.

On 30 September 2010, the European Commission queried the difference in inheritance tax treatment in transfers between UK-domiciled and non-UK-domiciled spouses. As I said, the reason for the difference in treatment is to protect assets from falling out of the UK tax net. A fundamental principle of inheritance tax is that an individual domiciled in the UK should be subject to inheritance tax on their worldwide estate. If both spouses or civil partners are domiciled in the UK, and assuming that they leave their individual estates to each other, their combined estate is subject to inheritance tax on the death of the second spouse or civil partner.

However, where the second spouse or civil partner is not domiciled in the UK, any asset that is not in the UK will not be liable for inheritance tax on their subsequent death. In the absence of the limited exemption to transfers, it would be possible for an individual domiciled in the UK to transfer their entire estate to their non-UK-domiciled spouse or civil partner, free of inheritance tax. The surviving spouse or civil partner would then be able to remove all assets from the UK, even if they continue to live here. Provided that they retain their non-UK-domiciled status, those assets would fall outside the estate for future changes to inheritance tax.

To address the European Commission’s concern about existing legislation, the Government committed at Budget 2012 to introduce a new election regime and to raise the lifetime limits on the value of transfers of assets to a non-UK-domiciled spouse or civil partner. Taken together, the changes provide a balanced approach to the risk in the area, while supporting the Government’s aim to create a fairer tax system.

Clause 175 will give non-domiciled spouses and civil partners the choice to elect to be within the UK inheritance tax system. For those who do so, their worldwide estate will be liable to UK inheritance tax, but subsequent transfers between an electing spouse and their UK-domiciled spouse or civil partner will be exempt from inheritance tax. To put it in another way, full spousal relief will be provided. The clause will ensure that, if non-domiciled spouses wish to take advantage of the reliefs available for inheritance tax, they do so on the same basis as UK-domiciled individuals.

The measure will affect only a small number of individuals and households. The figures for the 2011-12 tax year show that approximately 19,000 estates left on death paid inheritance tax, which represents less than  44% of the total number of estates. The number of the individuals affected by the clause will be significantly fewer, as it only concerns those where one spouse or civil partner is non-UK domiciled.

Clause 176 increases the exemption limit to the same level as the prevailing nil rate band—currently £325,000. A person will be able to transfer up to £325,000 in their lifetime and additionally benefit from the nil rate band of £325,000 on death, meaning there will be no inheritance tax to pay on £650,000 of the estate. The exemption limit applies only where the non-UK domiciled spouse elects not to be within the UK IHT system. That increase, taken together with the changes I have already mentioned, provides a balanced approach to risk in this area.

Following the publication of draft legislation in December, several changes were made to refine the legislation to take into account stakeholder comments. Having considered further representations made since the introduction of the Bill in March, the Government plan to table amendments on Report to ensure that individuals have the option to make elections retrospectively, where their circumstances change. The amendments will enable individuals who are domiciled in the UK but were previously domiciled elsewhere to make a retrospective election. Similarly, the amendments will enable individuals previously married or in a civil partnership to make a retrospective election following divorce or dissolution, which will ensure that changes in domicile or marriage status do not restrict individuals’ ability to elect to be in the UK inheritance tax system.

The hon. Member for Newcastle upon Tyne North expressed concern that two years is not long enough to make a death election. Elections that follow a death will normally be valid only if they are made within two years of the death. I want to put on the record that the Government recognise that there may be occasions when that time scale is too short. As a result, the legislation allows HMRC officers some discretion to extend the period, depending on the merits of the case. The Government are confident that the combination of measures set out in clauses 175 and 176 ensures our position is EU-compliant and represents a proportionate solution, given the risk of assets being transferred out of the UK tax net.

To return to whether the election should be effective from the date of transfer so the exemption covers gifts with reservation, we are considering the representations made by stakeholders in this area. However, the most obvious way to fully cover gifts with reservation would be to extend the seven-year period to which an election applies. That would significantly alter the legislation, and it would no longer meet the Government’s policy objectives. For example, it would bring the non-domiciled spouse’s overseas assets in for a much longer period.

In conclusion, these clauses give non-domiciled spouses and civil partners the choice to elect to be entirely within the UK inheritance tax system or to retain their non-domiciled status. This change addresses EU concerns and helps build a fairer tax system. For those who choose to elect, the clause ensures that from 6 April this year any transfers between them and their UK domiciled spouse or civil partner will be exempt from inheritance tax. I hope that clauses 175 and 176 stand part of the Bill.

Question put and agreed to.

Clause 175 accordingly ordered to stand part of the Bill.

Clause 176 ordered to stand part of the Bill.