Analysis
In 2001 the patient, J, received a settlement of £2,090,000 damages in respect of cerebral palsy suffered as a result of complications at the time of his birth in 1991. Of this, £1,611,222 was attributable to his future care needs. J is an only child. His father was born in 1959 and his mother in 1962. He lives with them in a house bought in October 2000 for £349,950 from an interim payment that is held by his parents and Mr Smyth (S), his receiver (now the deputy) as his trustees. Its current value is estimated at £675,000. J’s life expectancy was originally assessed in 1998 as late twenties and early thirties, but was subsequently revised, in 2000 and 2008, to mid-forties in view of the care he was receiving – and possibly longer, with developments in care and treatment. In October 2008 S applied to the court for its approval for a transfer of equity to the value of £500,000 in J’s property (being the family home) to his parents. The gift was not approved and the application was adjourned generally with liberty to restore. In April 2011 a revised application was made for permission to transfer £325,000 of the patient’s funds into a flexible power of appointment trust with the intent that substantial inheritance tax (IHT) would be saved (at today’s rates £130,000) if J survives seven years. S argued, inter alia, that such a transfer would be of benefit to J because:
- (a) He would wish his parents to be spared the consequences of such tax having to be paid.
- (b) It was probable that one or both of his parents would survive him.
- (c) In the very unlikely event that J were to marry and/or have a child or children, the saving in tax could benefit his wife and/or any such child or children.
- (d) The scheme was tax efficient and in particular there could be no reservation of benefit which would adversely affect the scheme.
- (e) J should be in the same position as anyone else when it comes to being at liberty to take lawful steps to avoid or mitigate a potential tax liability.
The Official Solicitor, acting as J’s litigation friend, was unable to support the application either on the basis of prudence and affordability or the effectiveness of the tax planning. This was not a case where an incapacitated person had more capital than he could possibly need. The amount of capital J received by way of damages had been calculated on the basis that it should provide for losses already incurred and for his future care and other needs for the duration of his life, but his life expectancy had been revised upwards since the date of the settlement. It could not be said that any part of those damages was surplus to J’s requirements and, hence, it could not be in his best interests to dispose of any part of his damages award. Furthermore, it was by no means certain that the scheme would be particularly effective to save IHT. In the typical case, the retention of the reversionary interest as non-excluded property was not problematic from an IHT perspective as the value of that interest was likely to be only nominal while the policy in question was in force. The possibility always remained that the trustees might extend the term or surrender the policy. The settlor’s reversionary interest was precarious and its market value effectively negligible. Here, however, where J was the settler, it was envisaged that the deputy would be one of the trustees and, hence, in a position effectively to veto any proposal to extend the term or to surrender the policy. Given that the deputy was under a fiduciary obligation, by virtue of his appointment, to act in the best interests of J, J’s reversionary interest was less precarious than in the typical case because it was rather more likely that the reversionary interest would fall into possession through an omission on the part of the trustees (forced upon them by the deputy’s veto) to extend the term or to surrender any given policy before its maturity date with the result that Her Majesty’s Revenue and Customs would seek to place a greater-than-nominal value on the reversionary interest.
Held
Application dismissed (para [41]). Having regard to all the circumstances, including the purpose for which his damages were awarded and the preponderance of disadvantages over benefit, it was not in J’s best interests to make any gift to his parents to mitigate the incidence of inheritance tax on his death. ‘Best interests’ was not defined in the Mental Capacity Act 2005, but s4 provided a checklist of factors that anyone doing the act or making the decision must consider when deciding what is in an incapacitated person’s best interests. When carrying out a best interests’ analysis in health and welfare cases, judges of the Court of Protection generally applied what is known as ‘the balance sheet approach’ and then looked for any ‘factor of magnetic importance’ which may tip the balance (para [29]). Such an approach seemed to be endorsed in Re G (TJ) [2011] WTLR 231. Here there were many more factors in favour of dismissing the application than allowing it, including such factors as: there was no evidence that hardship would result for J’s parents after his death; J would probably never have any understanding that a gift had been made; it would be unusual for a 20-year-old man in J’s position, but with the capacity to manage his affairs, to make such a gift; and the uncertainty in relation to life’s events and their possible effect on J’s circumstances (para [32]). Only if the account was in relatively significant credit could it be concluded that the application was likely to advance the best interests of the claimant. However, the fact that there were more entries on one side of the balance sheet than on the other was not necessarily conclusive. There was no statutory or other justification for the presumption that the court should not direct a settlement where P’s capital derived from a damages award. But, in most cases where an individual’s assets derived exclusively from a damages award for personal injury, when determining whether making an inter vivos gift was in his or her best interests, the factor of magnetic importance was likely to be the purpose for which the compensation was awarded and the assumptions upon which it was based. While the court was generally sympathetic towards family members who took on a caring role and dedicated their lives to looking after an injured relative it was not the function of the court to anticipate, ring-fence or maximise any potential inheritance for the benefit of family members on the death of a protected party, because this was not the purpose for which the compensation for personal injury was intended. The position might be different, of course, if the individual concerned had substantial funds surplus to his requirements that were derived from another source, such as an inheritance or a lottery win (para [35, 40]).
In view of the decision that the proposal was not in J’s best interests, there was no need for any ruling on the tax-efficiency or otherwise of the proposed scheme (para [42]).
JUDGMENT: MR LUSH: The background [1] This is an application for a gift to be made to the parents of a young man who has been awarded damages for clinical negligence. The purpose of the gift is to reduce the amount of inheritance tax (IHT) that they may have to pay on his death. [2] …Continue reading "Re JDS; Smyth v JDS [2012] COP 10334473"