Wills and Administration of Estates PDF

9 Administration: Dealing with the Estate 9.1 Introduction 152 9.2 The administration period 153 9.3 Duties of the PRs...

9 Administration: Dealing with the Estate 9.1 Introduction 152 9.2 The administration period 153 9.3 Duties of the PRs 153 9.4 Protection against liability 153 9.5 Administrative powers of PRs 155 9.6 Collecting the assets 155 9.7 Paying funeral and testamentary expenses and debts 155 9.8 Paying the legacies 159 9.9 Completing the administration 161 9.10 Transferring assets to residuary beneficiaries 166 9.11 Estate accounts 167 SQE1 syllabus This chapter will enable you to achieve the SQE1 assessment specification in relation to functioning legal knowledge concerned with wills and the administration of estates. The validity of a will and interpretation of the contents of a will. The distribution of testate, intestate and partially intestate estates. The law and practice of inheritance tax in the context of lifetime gifts and transfers on death. The planning, management and progression of the administration of an estate including claims made under the Inheritance (Provision for Family and Dependants) Act 1975. The law and practice relating to personal representatives and trustees in the administration of estates and consequent trusts. The rights, powers and remedies of beneficiaries of wills and consequent trusts. Duties of personal representatives. Liabilities of personal representatives and their protection. The sale of assets to raise funds to pay funeral expenses, tax, debts and legacies. Distribution of the estate. Burden and incidence of inheritance tax. The personal representatives’ liability to income tax and capital gains tax. The beneficiaries liability to capital gains tax on inherited assets. In the SQE1 assessment the process available to personal representatives to protect themselves from liability to unknown beneficiaries/​creditors may be referred to by way of the statutory authority, namely s 27 Trustee Act 1925; also, the process 151 Wills and the Administration of Estates available to personal representatives to protect themselves from liability to missing beneficiaries/​creditors may be referred to as a Benjamin order. Otherwise, in this chapter references to cases and statutory authorities are provided for illustrative purposes only. Learning outcomes By the end of this chapter you will be able to apply relevant core legal principles and rules appropriately and effectively, at the level of a competent newly qualified solicitor in practice, to realistic client-​based and ethical problems and situations in the following areas: key steps required to administer an estate; the rules on the incidence of debts and pecuniary legacies; the methods by which personal representatives may seek to protect themselves from personal liability; and the tax implications of the sale and distribution of assets. 9.1 Introduction Once the personal representatives (PRs) have obtained the grant, they are able to start the administration of the estate. The work involved in administering an estate is essentially the same whether the deceased left a will or died intestate. However, in the latter case, the beneficiaries will obviously have to be ascertained by application of the intestacy rules (see Chapter 4). Broadly speaking, the administration of the estate will require the PRs to: collect the deceased’s assets; pay the deceased’s funeral and testamentary expenses and debts; distribute the legacies; and complete the administration and distribute the residuary estate. This chapter looks at: the administration period; the duties of the PRs; protection against liability; administrative powers of PRs; collecting the assets; paying funeral and testamentary expenses and debts; paying the legacies; completing the administration; distributing the residuary estate; and estate accounts. 152  Administration: Dealing with the Estate 9.2 The administration period The ‘administration period’ commences at the moment immediately following the death and ends when the PRs are in a position to vest the residue of the estate in the beneficiaries, or the trustees if a trust arises under the will or the intestacy rules. It should be noted, however, that a PR holds office for life. If further assets or liabilities are discovered after the residue has been transferred, the PRs are still required to deal with them. 9.3 Duties of the PRs The primary duty imposed on PRs is found in s 25 Administration of Estates Act 1925 (AEA 1925). The PRs must ‘collect and get in the real and personal estate of the deceased and administer it according to the law’. The duties to be undertaken by a PR are onerous. A PR who accepts office is personally liable for loss to the estate resulting from any breach of duty they commit as PR (although they are not generally liable for breaches committed by a co-​PR). Such a breach of duty is known as devastavit (meaning, ‘he wasted’) (see 10.2.3). The test is whether there has been a loss caused by a breach of duty, not whether the PR is culpable. There are several types of breach of duty, including: (a) failing to protect the value of assets; (b) failing to pay the people entitled to assets. Section 61 Trustee Act 1925 gives the court power at its discretion to relieve a PR from liability for breach of duty if satisfied that the PR ‘has acted honestly and reasonably and ought fairly to be excused for the breach’ (see 10.2.3). Alternatively, an executor may be able to rely on a clause in the will providing protection from liability for mistakes made in good faith. 9.4 Protection against liability PRs are responsible for administering the estate correctly. Consequently, if the PRs fail to pay someone who is entitled either as a creditor or as a beneficiary, they will be personally liable to that person. PRs may face three issues: (a) There may be creditors of whom they are unaware or unknown relatives (eg children born outside marriage whose existence has been kept secret). (b) They may not know the whereabouts of some beneficiaries who may have lost contact with the deceased’s family. (c) There could be a successful claim against the estate under the Inheritance (Provision for Family and Dependants) Act 1975 (see Chapter 7). 9.4.1 Unknown beneficiaries and creditors PRs can protect themselves against unknown claims by advertising for claimants in compliance with the requirements of the s 27 Trustee Act 1925. Provided the PRs wait for the time period specified in the statute (at least two months) before distributing the estate, the PRs will be protected from liability if an unknown claimant later appears. However, the claimant will have the right to claim back assets from the beneficiaries who received them. 153 Wills and the Administration of Estates In view of the minimum notice period of two months, PRs should advertise as early as possible in the administration. If they are executors, they may advertise at any time after the death; if they are administrators, they have power to advertise at any time after obtaining the grant of representation. The PRs must give notice of the intended distribution of the estate, requiring any person interested to send in particulars of their claim, whether as a creditor or as a beneficiary, by: (a) advertisement in the London Gazette; (b) advertisement in a newspaper circulating in the district in which land owned by the deceased is situated; and (c) ‘such other like notices, including notices elsewhere than in England and Wales, as would, in any special case, have been directed by a court of competent jurisdiction in an action for administration’. If the PRs are in any doubt as to what notices should be given, they should apply to the court for directions. Each notice must require any person interested to send in particulars of their claim within the time specified in the notice, which must not be less than two months from the date of the notice. The PRs should also make searches which the prudent purchaser of land would make in the Land Registry, the Land Charges Register and the Local Land Charges Registry, as appropriate. The purpose of these searches is to reveal the existence of any liability in relation to the deceased’s ownership of an interest in land, for example a second mortgage. When the time limit in the notice has expired, the PRs may distribute the deceased’s estate, taking into account only those claims of which they have actual knowledge, or which they discover as a result of the advertisements. The PRs are not personally liable for any other claim, but a claimant may pursue the claim by following the assets into the hands of the beneficiaries who have received them from the PRs. 9.4.2 Missing beneficiaries and creditors Section 27 Trustee Act 1925 does not give any protection to PRs who know that there is a person with a claim but cannot find them. Where PRs cannot trace a known beneficiary, they will need to consider one of the following: (a) Keeping back assets in case the claimant appears. This option is usually unpopular with the other beneficiaries. (b) Taking an indemnity from the beneficiaries that they will meet any claims if the claimant reappears. This represents a risk for the PRs as the beneficiaries may lack the means to satisfy the claim when the claimant appears. (c) Taking out insurance to provide funds. This can be expensive and, as the claimant may be entitled to interest on the amount of their entitlement for the period up to payment, it is difficult to know what sum to insure. Insurance does not absolve the PR from personal liability, it simply means that there will be insurance money available to pay the claim. In the event of a shortfall, the PRs are liable to pay the difference. (d) Applying to the court for an order authorising the PRs to distribute the estate on the basis that the claimant is dead. This is referred to as a Benjamin order after the case in which it was first ordered (Re Benjamin 1 Ch 723). Before making an order, the court will require evidence that the fullest possible enquiries have been made to trace the missing person. A Benjamin order protects the PRs from liability, although the claimant retains the right to recover the assets from the beneficiaries. Applying to court is an expensive process, but it is the only solution that offers the PR full protection. 154  Administration: Dealing with the Estate 9.4.3 Inheritance (Provision for Family and Dependants) Act 1975 The PRs will be personally liable if the assets have been distributed and an applicant under the Inheritance (Provision for Family and Dependants) Act 1975 then successfully obtains an order for ‘reasonable financial provision’ from the estate (see Chapter 7). The PRs can protect themselves against such liability by waiting more than six months following the date of the grant of representation before distributing the assets. If earlier distribution is required, PRs should ensure they retain sufficient assets to satisfy an order should an applicant be successful within six months of the grant. 9.5 Administrative powers of PRs The PRs have a wide range of powers which they may exercise in carrying out the administration of an estate. These powers are largely conferred on them by statute. The AEA 1925 gives some powers specifically to PRs. The Trustee Act 1925 and the Trustee Act 2000 confer powers on trustees for use in administering a trust. Since ‘trustee’ in the legislation includes a ‘personal representative’, PRs have these powers as well (see Chapter 5). 9.6 Collecting the assets Assets which pass under the will or intestacy rules automatically devolve on (ie ownership passes to) the PRs. Real property devolves by virtue of s 1 AEA 1925 and personal property by common law. For executors devolution happens immediately on the death, for administrators when the grant of representation is issued. The PRs hold the assets for the purpose of the administration. Devolution gives the PRs ownership of the assets in the estate, but their duty is to collect them in as soon as is practicable. Although the PRs will be able to take possession of some assets immediately (cash found at the deceased’s house, for example), in most cases in order to collect the property, the PRs will need to produce their grant of representation to whoever is holding the asset, for example to the deceased’s bank or building society. An office copy grant will usually be accepted as evidence of title. Having collected in the assets the PRs must preserve them pending the completion of the administration. In preserving the assets, essentially PRs have the same powers as trustees in terms of management and investment and are subject to the same duty of reasonable care and skill under s 1 Trustee Act 2000. Assets which pass independently of the will and the intestacy rules (see Chapter 1) do not devolve on the PRs. The PRs have no obligation, or indeed power, to deal with these assets. So, for example, the deceased’s interest in a property held as joint tenant will pass to the other joint owner by right of survivorship. 9.7 Paying funeral and testamentary expenses and debts 9.7.1 Preliminary considerations 9.7.1.1 Immediate sources of money As soon as monies can be collected from the deceased’s bank or building society, or realised through insurance policies etc, the PRs should begin to pay the deceased’s outstanding debts and the funeral account. Administration expenses, for example estate agents’ and valuers’ 155 Wills and the Administration of Estates fees, will arise during the course of administration of the estate and will have to be settled from time to time while the administration is proceeding. 9.7.1.2 Repayment of loan to pay inheritance tax It may have been necessary for the PRs to take out a loan from the deceased’s bank to pay inheritance tax to obtain the grant. If an undertaking has been given to the bank in connection with the loan, it will probably be a ‘first proceeds’ undertaking. This means that the PRs must use money first realised by them during the administration to repay the bank. Failure to do so will be a breach of the terms of the undertaking. 9.7.1.3 Sale of assets Any assets in the estate can be used for the payment of debts and expenses (s 32(1) AEA 1925). However, the PRs must take considerable care when deciding which particular assets they will sell in order to raise money. They should consider the following points. Provisions of the will The will may direct from which part of the deceased’s estate the debts, funeral account, testamentary and administration expenses should be paid; usually they will be paid from the residue. In the absence of such direction, the PRs must follow the statutory rules for the incidence of liabilities (see 9.7.3). In any event, it will be generally incorrect for PRs to sell property given specifically by will unless all other assets in the estate have been exhausted in payment of the debts, etc. The beneficiaries’ wishes Where possible, the wishes of the beneficiaries of the residuary estate should be respected by the PRs. Although the PRs have power to sell any assets in the residuary estate, it is clearly appropriate that the residuary beneficiaries should be consulted before any sale takes place. Generally, beneficiaries have clear views as to which assets they desire to be retained for transfer to them; other assets may be sold by the PRs to raise the necessary money, possibly following receipt of professional advice as to particular sales. Tax consequences Before selling assets, the PRs should consider the amount of any capital gains (or losses) likely to arise as a result of the sale, and the availability of any exemptions, etc (see 9.9.5.3). Full use should be made of the annual exemption for capital gains tax. If assets are to be sold at a loss (compared to their value at the date of death), loss reliefs for capital gains tax and inheritance tax purposes (see 9.9.1.2) may be available for the PRs. 9.7.2 Payments to be made 9.7.2.1 The deceased’s debts and liabilities The PRs must settle any outstanding debts owed by the deceased at the time of death, such as outstanding utility bills or payments of income tax. The PRs must pay the debts and liabilities with due diligence and will be liable for any loss if they fail to do so, eg because the debt carries interest. 9.7.2.2 Funeral expenses The PRs are required to pay reasonable expenses of a funeral conducted in a manner suitable to the deceased’s position and circumstances, but are only liable in so far as they have available assets of the deceased to make the payment. The reasonableness of the funeral cost is a question of fact to be determined in the circumstances of the case. 156  Administration: Dealing with the Estate 9.7.2.3 Testamentary expenses The phrase ‘testamentary and administration expenses’ is not defined in the AEA 1925, but it is generally considered to mean expenses which are incidental to the proper performance of the duties of a PR. Testamentary expenses will include: (a) the costs of obtaining the grant; (b) the costs of collecting in and preserving the deceased’s assets; (c) the costs of administering the deceased’s estate, for example solicitors’ fees for acting for the PRs, valuers’ fees incurred by PRs in valuing the deceased’s stocks and shares or other property; and (d) any inheritance tax payable on death on the deceased’s property in the UK which vests in the PRs (s 211 Inheritance Tax Act 1984). (The inheritance tax payable on property falling outside this definition, such as property passing by survivorship, is borne by the beneficiary. The PRs can claim reimbursement of any tax they have paid from the person in whom the property is vested, although there may be practical difficulties in securing payment unless the beneficiary is also entitled to other assets from the estate.) 9.7.3 Administration of assets: solvent estates The rules applying to the payment of funeral and testamentary expenses and debts depend on whether the estate is solvent or insolvent. The insolvent estate is considered at 9.7.4. A solvent estate is one in which there are sufficient assets to pay all the expenses, debts and liabilities in full (irrespective of whether there remains anything with which to pay the legacies). In a solvent estate all the debts will be paid, but s 35 and s 34(3) AEA 1925 govern the order in which assets are to be used to pay the debts. This is important for the beneficiaries. They have an entitlement under the will, but they may see that entitlement reduced or dwindle to nothing because the assets which form the subject matter of that entitlement is taken to pay the debts. 9.7.3.1 Secured debts Section 35 AEA 1925 deals with secured debts, ie debts owing by the deceased which are charged on particular items of property. A common example is a loan secured by legal mortgage on the deceased’s house. The effect of this rule is that a beneficiary taking the asset takes it subject to the debt and will be responsible for paying the debt. Section 35 applies subject to any contrary intention shown in the will, deed or other document. Intention is not signified by a general direction to pay debts out of the residue. Such a direction would be construed as a direction to pay those debts other than the secured debts. To constitute a contrary intention for the purpose of s 35 there must be an express reference to the mortgage. So, a gift of ‘my cottage to my daughter free of mortgage’ will suffice, as will a direction that the mortgage be paid from the residue. 9.7.3.2 Unsecured debts and expenses Section 34(3) AEA 1925 provides that the assets must be applied in the order set out in Part II of Schedule 1 to pay debts and expenses. This is the so-​called ‘statutory order’ which the PRs must follow when deciding which part of the deceased’s estate should be used for the purposes of payment of the funeral and testamentary expenses and unsecured debts: 1. Property undisposed of by will subject to retention of a fund to meet pecuniary legacies. (There will be some cases where the terms of the will simply fail to dispose of the entire estate or where the testator has tried to dispose of it in the will but failed, eg a lapsed share of residue. The property which is undisposed of will be applied first.) 157 Wills and the Administration of Estates 2. Property included in a residuary gift subject to retention of a fund to pay pecuniary legacies not already provided for. (Hence, in most estates the residue will bear the burden of the debts and expenses.) 3. Property specifically given for the payment of debts. (Property is given for the payment of debts where the testator directs in the will that a particular asset is to be used for this purpose, but leaves no direction as to what is to happen to any money left over, eg ‘my debts are to be paid from the proceeds of sale of my shares in X Co’.) 4. Property charged with the payment of debts. (Property is charged with the payment of debts where the testator directs in the will that the asset is to be used for this purpose but provides that any money left over is to go to a beneficiary, eg ‘my debts are to be paid from the proceeds of sale of my shares in X Co and the balance paid to John’.) 5. The fund, if any, retained to meet pecuniary legacies. 6. Property specifically devised or bequeathed, rateably according to value. 7. Property appointed by will under a general power rateably according to value. It will be seen that, broadly, assets forming part of the residue are to be used before using property given to specific legatees. Section 34(3) applies subject to a contrary intention shown in the will. So, the testator can vary the order by making express provision in the will which makes it clear that the testator intends to exonerate property which would otherwise be taken in priority. The will may, for example, provide for a gift to be ‘subject to the payment of tax’ with the result that the inheritance tax attributable to the subject matter of the gift is payable from the asset itself. If the gift was silent or expressed to be ‘free of tax’, the inheritance tax attributable to the subject matter of the gift is payable as a testamentary expense. In practice it is common for a will to include a stipulation that debts and expenses should be paid from the residuary estate. 9.7.4 Administration of assets: insolvent estates An estate is insolvent if the assets are insufficient to discharge in full the funeral, testamentary and administration expenses, debts and liabilities. In an insolvent estate the assets are applied to pay the debts until they have been used up. In such cases, the creditors will not be paid in full (or at all) and the beneficiaries under the will or the intestacy provisions will receive nothing from the estate. In the case of an insolvent estate which is being administered by the deceased’s PRs out of court (this being the most common method of administration), the order of distribution in the Administration of Insolvent Estates of Deceased Persons Order 1986 (SI 1986/​1999) should be followed. Broadly, this ranks debts and expenses in order of priority for payment. Secured creditors, for example those holding a mortgage or charge over the deceased’s property, are in a better position than unsecured creditors in that they may (inter alia) realise the security, ie sell the property by exercising a power of sale as mortgagee or chargee. Unsecured creditors will have to look to any remaining assets for payment. Funeral and testamentary expenses are paid in priority to ordinary unsecured debts and liabilities of the deceased. By definition, in an insolvent estate there will be insufficient funds to pay all the unsecured debts, and these will therefore abate equally. Example Under the terms of Rashid’s will his entire estate passes to his nephew. Rashid’s estate comprises £10,000 in a bank account, personal effects worth £2,000 and his house which is valued at £200,000 and subject to a mortgage in favour of a Building Society of £175,000. Rashid had a credit card debt of £15,000 and the cost of Rashid’s funeral was £5,000. At the time of his death Rashid still owed £25,000 to a builder in respect of some work carried out at his house. 158  Administration: Dealing with the Estate There are insufficient assets in Rashid’s estate to pay his debts and expenses. The mortgage on the house is a secured debt and so will be considered first. The Building Society is entitled to be paid the £175,000 owed to them from the proceeds of sale of the house. The assets then available to the PRs are the £25,000 remaining from the house after the Building Society has been paid, £10,000 in the bank account and the personal effects worth £2,000. A total of £37,000. Funeral, testamentary and administration expenses are dealt with in priority to ordinary unsecured creditors. So, next the PRs must pay the funeral expenses of £5,000. This leaves £32,000. Both the credit card bill and the builder’s bill are ordinary unsecured debts. Together they total £40,000 and the remaining assets total £32,000. The ordinary debts will therefore abate equally with the result that the personal representatives will pay the credit card provider £12,000 and the builder £20,000. In doubtful cases, the PRs should administer the estate as if it is insolvent. Failure to administer an insolvent estate in accordance with the statutory order is a breach of duty by the PRs. 9.8 Paying the legacies Once the funeral, testamentary and administration expenses and debts have been paid, or at least adequately provided for by setting aside sufficient assets for the purpose, the PRs should consider discharging the gifts arising on the death, other than the gifts of the residuary estate. 9.8.1 Specific legacies Unless an estate has significant debts, it is unusual for property given by specific bequest or devise to be needed for payment of the deceased’s funeral and testamentary expenses and debts (see 9.7.3). Once the PRs are satisfied that the property will not be so required, they should consider transferring it to the beneficiary, or to trustees if a trust arises, for example if the property is given to a beneficiary contingently on attaining a stated age and the beneficiary has not yet reached that age. The method of transferring the property to the beneficiary or trustee will depend on its particular nature. For example, the legal estate in a house or flat should be vested in a beneficiary by a document known as an assent (it is the beneficiary’s responsibility to send the assent to the Land Registry for registration). If the specific legacy is of company shares, a stock transfer form should be used. In the case of specific gifts only, the vesting of the asset in the beneficiary is retrospective to the date of death, so that any income produced by the property, for example dividends on a specific gift of company shares, belongs to the beneficiary. The beneficiary is not entitled to the income as it arises but must wait until the PRs vest the property in them. As the beneficiary is entitled to the income, they will be liable to be assessed for any income tax due on that income since the death (see 9.9.5.2). Any costs of transferring the property to a specific legatee, and the cost of any necessary insurance cover taken to safeguard the property are the responsibility of the legatee who should reimburse the PRs for the expenses incurred (subject to any contrary direction in a will indicating that such expenses should be paid from residue). If the deceased’s title to the asset is disputed by a third party, the specific legatee will be responsible for the cost of litigation to establish ownership. 159 Wills and the Administration of Estates 9.8.2 Pecuniary legacies –​provision for payment in the will Often a testator has expressly dealt with the payment of pecuniary legacies in the will itself. Typically, the gift of the residuary estate will be ‘subject to’ or ‘after payment of’ the pecuniary legacies. In both cases the legacies should be paid from the fund of residue before the division of the balance between the residuary beneficiaries. 9.8.3 Pecuniary legacies –​no provision by will for payment If the will does not contain an express provision, the PRs will have to decide which assets are to be used to pay the pecuniary legacies. The law in this area is far from clear cut, but in essence pecuniary legacies are paid from the residuary estate, with personalty being used in preference to realty. Example A will leaves a legacy of £5,000 to Desmond. There is no direction as to payment of the legacy. Residue consisting of personalty and realty is given by the will to ‘Errol if he shall survive me by 28 days’. Errol does survive the testator by more than 28 days, and residue is, therefore, fully disposed of. The PRs should pay the £5,000 legacy from the personalty contained in the residue, with the proceeds of the realty being used afterwards if necessary. If a partial intestacy arises, for example where part of a gift of residue fails because one of the beneficiaries dies before the testator, it is often unclear as a matter of law which is the appropriate part of the estate for the payment of the pecuniary legacies. The most likely outcome is that the legacies will be paid from the property which is undisposed of, with ready money being used first. 9.8.4 Time for payment of pecuniary legacies The general rule is that a pecuniary legacy is payable at the end of ‘the executor’s year’, ie one year after the testator’s death. PRs are not bound to distribute the estate to the beneficiaries before the expiration of one year from the death (s 44 AEA 1925). It is often difficult to make payment within the year and, if payment is delayed beyond this date, the legatee will be entitled to interest by way of compensation. The rate of interest will either be the rate prescribed by the testator’s will, or, in default of such provision, the rate payable on money paid into court. If the testator stipulates that the legacy is to be paid ‘immediately following my death’, or that it is payable at some future date, or on the happening of a particular contingency, then interest is payable from either the day following the date of death, the future date or the date the contingency occurs, as may be appropriate. There are four occasions when, as an exception to the normal rule, interest is payable on a pecuniary legacy from the date of the death. These occur when legacies are: (a) payable in satisfaction of a debt owed by the testator to a creditor; (b) charged on land owned by the testator; (c) payable to the testator’s minor child (historically this was so that provision was made for maintenance of the child, and interest is not payable under this provision if other funds exist for the child’s maintenance); or (d) payable to any minor (not necessarily the child of the testator) where the intention is to provide for the maintenance of that minor. 160  Administration: Dealing with the Estate 9.9 Completing the administration Once the PRs have paid the deceased’s funeral, testamentary expenses and debts and any legacies given by the will, they can consider distribution of the residuary estate in accordance with the will or the intestacy rules. Before drawing up the estate accounts and making the final distribution of residue, the PRs must deal with all outstanding matters. Such matters relate mostly to inheritance tax liability, but there will also be income tax and capital gains tax to consider. 9.9.1 Adjusting the inheritance tax assessment 9.9.1.1 The need for adjustment An adjustment to the amount of inheritance tax payable on the instalment and non-​instalment option property in the estate may be necessary for a number of reasons, including: (a) discovery of additional assets or liabilities since the IHT account was submitted; (b) discovery of lifetime transfers made by the deceased within the seven years before death; (c) agreement of provisionally estimated values, for example with the shares valuation division of HMRC (in the case of shares in private companies) or the district valuer (in the case of land). Such valuations may require long negotiations and can often delay reaching a final settlement of inheritance tax liabilities; (d) agreement between the PRs and HMRC of a tax liability or repayment, in relation to the deceased’s income and capital gains before the death; (e) sales made by the PRs after the deceased’s death which have given rise to a claim for inheritance tax ‘loss relief’. 9.9.1.2 Inheritance tax loss relief The PRs may have to sell assets because they need cash to meet debts, tax liabilities or legacies. The value of some assets, such as quoted shares and land, fluctuates depending on market conditions, and PRs may find that they sell these assets for less than their value at the date of death. Loss on sale relief can reduce the inheritance tax liability of the estate in such cases. Where ‘qualifying investments’ are sold within 12 months of death for less than their market value at the date of death (ie ‘probate value’) then the sale price can be substituted for the market value at death and the inheritance tax liability adjusted accordingly. ‘Qualifying investments’ are shares or securities which are quoted on a recognised stock exchange at the date of death and also holdings in authorised unit trusts. The relief must be claimed; it is not automatic. It is normally available only when the PRs make the sale and not where a beneficiary to whom assets have been transferred does so. 9.9.2 PRs’ continuing inheritance tax liability 9.9.2.1 Inheritance tax by instalments The PRs may have opted to pay inheritance tax by instalments on the property in the deceased’s estate attracting the instalment option (see 6.9.1.2). By the time they are ready to transfer the assets to those entitled, it is likely that only one or two instalments will have been paid. The PRs continue to be liable for the remaining instalments. It would be risky for the PRs to transfer all the assets to the beneficiaries in reliance on a promise that the beneficiaries will pay the tax. If the beneficiaries become insolvent or disappear, the PRs will be liable for the unpaid tax but will have no assets from the estate to meet the liability. The PRs should consider retaining sufficient assets in the estate to cover the remaining tax. 161 Wills and the Administration of Estates Harris v Commissioners for HMRC UKFTT 204 (TC) In this case the administrator distributed all the assets to the sole beneficiary on the basis that the beneficiary would pay all costs and taxes due. The beneficiary then returned to his home in Barbados. Thereafter the administrator was unable to make any further contact with the beneficiary. The Tribunal said that the law was absolutely clear: the administrator remained personally liable for unpaid inheritance tax of a little over £341,000. 9.9.2.2 Inheritance tax on lifetime transfers If the deceased dies within seven years of making either a potentially exempt transfer (PET), or a lifetime chargeable transfer (LCT), inheritance tax (if a PET) or more inheritance tax (if an LCT) may become payable (see 6.5 and 6.6). Although the general rule is that the donees of lifetime transfers are primarily liable for the tax, the PRs of the donor’s estate may become liable if the tax remains unpaid by the donees 12 months after the end of the month in which the donor died. However, the PRs’ liability is limited to the extent of the deceased’s assets which they have received or would have received in the administration of the estate, but for their neglect or default. In addition, if the deceased gave away property during his lifetime but reserved a benefit in that property, such property is treated as part of his estate on death (see 6.4.1.2). The donee of the gift is primarily liable to pay the tax attributable, but if the tax remains unpaid 12 months after the end of the month of death, the PRs become liable. Again, the PRs should consider how they can protect themselves in case this liability materialises. 9.9.3 Corrective account When all variations in the extent or value of the deceased’s assets and liabilities are known, and all reliefs to which the estate is entitled have been quantified, the PRs must report all outstanding matters to HMRC. This report is made by way of a corrective account. 9.9.4 Inheritance tax clearance PRs will normally want to obtain confirmation from HMRC that there is no further claim to inheritance tax. If HMRC is satisfied that inheritance tax attributable to a chargeable transfer has, or will be, paid, it can, and if the transfer is one made on death must, confirm that this is the case. PRs can apply (using form IHT30) for such confirmation to be provided in the form of a clearance certificate. The effect is to discharge all persons, in particular the PRs, from further liability to inheritance tax (unless there is fraud or non-​disclosure of material facts). 9.9.5 Income tax and capital gains tax 9.9.5.1 The deceased’s liability Immediately following the death, the PRs must make a return to HMRC of the income and capital gains of the deceased for the period starting on 6 April before the death and ending with the date of death. Even though the deceased died part way through the income tax year, the PRs, on the deceased’s behalf, may claim the same reliefs and allowances as the deceased could have claimed had they lived throughout the whole year. Any liability to tax is a debt of the deceased which must be paid by the PRs during the administration (see 9.7.2.1). The debt will be deductible when calculating the amount of inheritance tax. Alternatively, if a refund of tax is obtained, this will represent an asset, so increasing the size of the estate for inheritance tax purposes. 9.9.5.2 Income tax PRs are subject to income tax in their capacity as PRs on any income paid to the estate during the administration. There may be income producing assets already in the estate, such as a property let out to tenants who will continue to pay rent to the estate. Income may also be generated by the actions of the PRs during the administration. For example, the PRs would be expected to put any cash into a savings account where it can earn interest. 162  Administration: Dealing with the Estate The rates at which PRs pay income tax depends on the type of income they receive. PRs do not pay income tax at any higher rate(s) but nor do they benefit from any of the allowances available to individuals. PRs will therefore pay tax at the following rates on all income received: dividends 8.75% other income 20% The Welsh Government has devolved powers in relation to a portion of the rate of income tax on non-savings, non-dividend income (Welsh income tax). To date those powers have been so exercised that the overall rates of Welsh income tax are the same as those applicable in England and so are as above. Where the income of the estate in a tax year does not exceed £500, the PRs pay no income tax. If the income exceeds £500, income tax is payable on the whole amount. Beneficiaries do not pay tax on income distributed to them that is within the £500 limit. In calculating any income tax liability on the income of the administration period, the PRs may be able to claim relief for interest paid on a bank loan to pay inheritance tax. If the PRs use this loan to pay the inheritance tax on the deceased’s personal property in the UK which devolves on them in order to obtain the grant, income tax relief is generally available to them. Example PRs’ only income is gross interest of £4,000 for a tax year in the administration period (none of the income is from dividends). The PRs pay £1,000 interest to the bank on a loan to pay inheritance tax to obtain their grant. Gross income £4,000 Less: interest paid £1,000 Taxable income £3,000 Income tax payable £3,000 x 20% = £600 Net income for the beneficiaries £2,400 Once the PRs’ tax position has been settled, the remaining net income will be paid to the beneficiary. The payment forms part of the beneficiary’s income and the gross amount should therefore be included in their return of income for the income tax year to which it relates. The beneficiary receives credit for the tax already paid by the PRs. Whether there is any more tax to pay, or, indeed, whether a refund can be claimed, will depend on the beneficiary’s own income tax position. 9.9.5.3 Capital gains tax (CGT) CGT is charged on the gains made on the disposal of a chargeable asset. CGT effectively taxes the increase or gain in the value of an asset during the individual’s period of ownership. CGT is basically assessed on the difference between the purchase and sale price, or market value of the asset if it is given away. The individual is also allowed to deduct certain expenses and fees incidental to the sale or purchase, for example conveyancing fees. The individual is 163 Wills and the Administration of Estates taxed on the total of all the gains made during the year. There is an exemption for the first part of the gains made by an individual each year –​£3,000 for the tax year 2024/25. This is called the annual exemption. On death, there is no disposal for CGT purposes, so that no liability to CGT arises. The PRs acquire all the deceased’s assets at their probate value at death. This has the effect of wiping out gains which accrued during the deceased’s lifetime so that these gains are not charged to tax. Although there is no disposal, the probate value becomes the PRs’ ‘base cost’ of all the deceased’s assets for future CGT purposes. If the PRs dispose of chargeable assets during the administration of the deceased’s estate to raise cash (eg to pay inheritance tax, or other outgoings or legacies), they are liable to CGT on any chargeable gains that they make. The rate at which individuals pay CGT varies according to whether they are basic or higher rate income tax payers. However, for PRs the position is much simpler as they pay at flat rates. For gains arising in 2024/25 the rate for PRs is 20% except for gains on residential property which are taxed at 24%. In addition to deducting their acquisition cost (probate value), the PRs may deduct from the disposal consideration the incidental costs of disposal (eg stockbroker’s commission on sale of shares). In addition, they may deduct a proportion of the cost of valuing the deceased’s estate for probate purposes. The PRs may claim the annual exemption for disposals made in the tax year in which the deceased died and the following two tax years only (if the administration lasts this long). The exemption is the same as for an individual (ie £3,000 for 2024/25). Maximum advantage will be taken from this exemption if the PRs plan sales of assets carefully so that gains are realised in stages in each of the three tax years for which it is available. Example PRs realise they will need to raise £50,000 to pay administration expenses. They sell some investments for £50,000. The probate value of the investments was £37,000. There are no costs associated with the sale. The PRs have no unused losses. £ Disposal value 50,000 Less: acquisition (probate) value 37,000 Gain 13,000 Less: annual exemption 3,000 Chargeable gain 10,000 CGT payable £10,000 x 20% = £2,000 If the PRs sell assets for less than their value at death, an allowable loss for CGT will arise. This loss may be relieved by setting it against gains arising on other sales by the PRs in the same, or any future, tax year in the administration period. Any loss which is unrelieved at the end of the administration period cannot be transferred to the beneficiaries. In view of this limitation, the PRs should plan sales carefully to ensure they can obtain relief for all losses which they realise. If there is a possibility of losses being unused, the PRs should either plan sales of other assets, or consider transferring the assets worth less than their probate value to the beneficiaries (see below). 164  Administration: Dealing with the Estate If, instead of selling assets, the PRs vest them in the beneficiaries (or trustees if a trust arises), no chargeable gain or allowable loss arises. The beneficiary or trustee is deemed to acquire the asset transferred at its probate value. This ‘base cost’ of the asset will be relevant to the CGT calculation on a future disposal by the beneficiary. Example A testator by will leaves his residuary estate to Parvez. Among the assets forming residue are 1,000 shares in XYZ plc. The testator had bought the shares for £1,000 ten years before he died. The probate value of the shares was £5,200. By the time the shares were transferred to Parvez the value had risen to £10,000. Five years later Parvez sells the shares for £19,200. The sale of the shares is a disposal for CGT purposes. Parvez will be taxed on the chargeable gain. Parvez is deemed to have acquired the shares at the probate value. £ Disposal value 19,200 Less: acquisition (probate) value 5,200 Gain 14,000 Less: annual exemption 3,000 Chargeable gain 11,000 Key points on CGT and death: (1) No CGT is payable on death itself. (2) If PRs sell assets, they make a disposal. Their acquisition value is the market value at the date of death. They have an annual exemption equal to an individual’s in the tax year of death and the two following tax years, so there will often be no tax liability on their disposals. (3) The rate of tax payable by PRs is 20% except for gains on residential property which are taxed at 24%. (4) If PRs transfer assets to beneficiaries, they do not make a disposal. The beneficiary acquires the asset at market value at the date of death. 9.9.5.4 The administration period For each income tax year (or part) during the administration period, the PRs must calculate their income tax and any CGT liability on assets disposed of for administration purposes. Provided the estate is not classified as a complex estate, they can make an informal payment without having to provide a tax return. If the estate is ‘complex’, they must make a return to HMRC of the income they receive on the deceased’s assets, and any gains they make on disposals of chargeable assets for administration purposes. An estate is considered complex if either: (1) the value of the estate exceeds £2.5 million; or (2) tax due for the whole of the administration period exceeds £10,000; or (3) the value of assets sold in a tax year exceeds £500,000. Provided the estate is not complex, income tax and CGT are normally paid in one lump sum at the end of the administration period. However, CGT on the disposal of UK residential land must be paid within 60 days of completion. 165 Wills and the Administration of Estates 9.10 Transferring assets to residuary beneficiaries 9.10.1 Interim distributions Once the outstanding tax, legal costs and other matters have been disposed of, PRs should consider transferring any remaining assets to the residuary beneficiaries. In doing so they must remember that payments may have been made already to the beneficiaries as interim distributions on account of their entitlement. If so, these will be taken into account when determining what and how much more should be transferred to those beneficiaries. 9.10.2 Adult beneficiaries If the beneficiaries are adults and have a vested entitlement to property in the residuary estate, their entitlement can be transferred to them. If they have a contingent entitlement, the property cannot be transferred to them but will instead be transferred to trustees to hold on their behalf until the contingency is satisfied. 9.10.3 Minor beneficiaries If any beneficiaries are under 18 years of age, whether the interest enjoyed is vested or contingent, the property will usually be held in trust for them until the age of majority is reached or the contingency is satisfied. If a minor beneficiary has a vested interest the PRs may be able to transfer their entitlement to them (if expressly authorised in the will), or to parents and guardians on behalf of the minor. 9.10.4 Transferring property The manner in which the property is transferred to residuary beneficiaries, or to trustees on their behalf, will depend on the nature of the property remaining in the estate. Personal property The PRs indicate that they no longer require property for administration purposes when they pass title to it by means of an assent. Generally, no particular form of assent is required in the case of personalty so that often the property passes by delivery. The beneficiary’s title to the property derives from the will; the assent is merely the manner of giving effect to the gift by the PRs. Company shares are transferred by share (stock) transfer form. The PRs must produce their grant to the company as proof of title to the shares. They, as transferors, transfer the shares ‘as PRs of X deceased’ to the beneficiary (the transferee), who then applies to be registered as a member of the company in place of the deceased member. Freehold or leasehold land PRs vest the legal estate in land in the person entitled (whether beneficially or as trustee) by means of an assent, which will then become a document of title to the legal estate. If PRs are to continue to hold property in their changed capacity as trustees under trusts declared by the will, or arising under the intestacy law, an assent will again be appropriate. The PRs should formally vest the legal estate in themselves as trustees to hold for the beneficiaries. The assent must be in writing, it must be signed by the PRs, and it must name the person in whose favour it is made. It then operates to vest the legal estate in the named person. A deed is not necessary to pass the legal estate, but PRs may choose to use a deed, for example if they require the beneficiary to give them the benefit of an indemnity covenant. 166  Administration: Dealing with the Estate 9.11 Estate accounts The final task of the PRs is usually to produce estate accounts for the residuary beneficiaries. The purpose of the accounts is to show all the assets of the estate, the payment of the debts, administration expenses and legacies, and the balance remaining for the residuary beneficiaries. The balance will normally be represented by a combination of assets transferred to the beneficiaries and some cash. The residuary beneficiaries sign the accounts to indicate that they approve them. In the absence of fraud or failure to disclose assets, their signatures will also release the PRs from further liability to account to the beneficiaries. There is no prescribed form for estate accounts. Any presentation adopted should be clear and concise so that the accounts are easily understood by the residuary beneficiaries. If interim distribution payments were made to the residuary beneficiaries during the administration period, these must be taken into account and shown in the estate accounts. Normally accounts show capital assets, and income produced by those assets during the administration period, in separate capital and income accounts. In small estates this may not be necessary, so that one account showing both capital and income will be sufficient. However, it is always necessary to prepare separate accounts if the will (or the intestacy rules) creates a life or minority interest, since the different interests of the beneficiaries in the capital and income need to be distinguished throughout the period of the trust, and when it ends. Summary PRs are under a statutory duty to administer the estate correctly. PRs are personally liable for any errors and so must be careful to protect themselves against beneficiaries and creditors who are unknown or missing and claimants under the Inheritance (Provision for Family and Dependants) Act 1975. PRs have various statutory powers in dealing with the estate. These powers may be extended by the will. PRs must collect in the deceased’s assets. PRs must pay the funeral and testamentary expenses and debts as directed by the will, or as prescribed by statute. After the payment of debts and expenses, the PRs must pay the legacies. PRs are liable to income tax on income of the administration period at basic and dividend ordinary rate. PRs are liable to capital gains tax on the sale of an asset. If the PRs transfer an asset to a beneficiary, there is no disposal for capital gains tax purposes; the beneficiary acquires the asset at the probate value. At the end of the administration, PRs prepare estate accounts for approval by the residuary beneficiaries. 167 Wills and the Administration of Estates Sample questions Question 1 A man died six months ago. He owned assets in his sole name worth £1,500,000, including a cottage (worth £300,000), which was subject to a £50,000 mortgage. The man had one other debt (£10,000 owed to his credit card provider). In his valid will, the man left his cottage to his niece and the residue of his estate to his nephew. Both gifts are effective. The will was silent on the burden of inheritance tax (‘IHT’) and all debts, including the mortgage secured on the cottage. Which of the following best describes the position in relation to the burden of the IHT and all the debts? A The residue will bear the burden of all the debts, including the mortgage, and the IHT attributable to the cottage. B The residue will bear the burden of all the debts, including the mortgage, but not the IHT attributable to the cottage. C The residue will bear the burden of the credit card debt but not the mortgage and not the IHT attributable to the cottage. D The residue will bear the burden of the IHT on the cottage, and the credit card debt but not the mortgage. E The residue will bear the burden of the IHT on the cottage but not on any of the debts. Answer Option D is correct. The will is silent on the payment of debts and testamentary expenses. The mortgage is a secured debt and so the beneficiary who is given charged property bears the burden of the debt (s 35 Administration of Estates Act 1925). All other debts and testamentary expenses (including the IHT payable on property in the UK which vests in the PRs) are borne by the residue. The residue therefore bears the burden of the credit card debt and the IHT. Question 2 A man died six months ago. In his valid will, he left a legacy of £5,000 to a school friend and the rest of his estate to his son. Nobody knows the current whereabouts of the school friend or whether he is still alive. The man left nothing to his partner with whom he had been living for three years before his death. They were not married and had not formed a civil partnership. The partner is threatening to make a claim under the Inheritance (Provision for Family and Dependants) Act 1975. The personal representatives (‘PRs’) obtained the grant of representation three months ago and immediately placed advertisements complying with s 27 Trustee Act 1925 in the London Gazette and in a local newspaper. Having received no response, they distributed the whole estate to the deceased’s son last week. Which of the following best describes the PRs’ protection from personal liability on claims by creditors, claimants and beneficiaries? A The PRs are protected against all possible claims. B The PRs are protected against possible claims by unknown creditors but not against possible claims by the school friend and the partner. C The PRs are protected against possible claims by the school friend and the partner but not against claims by unknown creditors. 168  Administration: Dealing with the Estate D The PRs are protected against possible claims by unknown creditors and the school friend, but not against possible claims by the partner. E The PRs are protected against possible claims by unknown creditors and the partner, but not against possible claims by the school friend. Answer Option B is correct. The PRs have followed the requirements of s 27 Trustee Act 1925, including waiting more than two months from the placing of the advertisements before distributing the estate. This protects the PRs against claims by unknown creditors/​beneficiaries. Section 27 does not protect against claims by creditors/​beneficiaries who are known about but cannot be traced, such as the school friend. To secure protection the PRs should have taken additional steps regarding the school friend, such as obtaining a Benjamin order. The PRs are not protected against possible claims under the Inheritance (Provision for Family and Dependants) Act 1975 because they distributed within six months from the grant (the time limit for making claims under the Act). Question 3 A person died with an estate including shares worth £213,000 at the date of death and a painting worth £480,000 at the date of death. During the period from death to the end of the tax year the only relevant events were that the personal representatives (‘PRs’) sold the shares for £225,000 and transferred the painting to the beneficiary entitled to it at a time when it had risen in value to £510,000. In this period the Capital Gains Tax (‘CGT’) rate was 20% and the annual exemption was £3,000. Assume that there were no disposal costs associated with these events. What is the amount of CGT that the PRs must pay on the estate for the tax year in which the person died? A £1,800. B £7,800. C £8,400. D £2,400. E £5,400. Answer Option A is correct because the sale of the shares makes a chargeable gain of £12,000. After deducting the annual exemption of £3,000 the £9,000 gain is taxed at 20%. £9,000 x 20% = £1,800. The transfer of the painting to the beneficiary is not a disposal for CGT purposes and so no CGT is payable. The beneficiary acquires the painting at its probate value. Option B is wrong as it includes the increase in value for the transfer. Option C is wrong as it includes the increase in value for the transfer and also does not deduct the annual exemption. Option D is wrong as while it correctly only includes the gain on the sale it does not deduct the annual exemption. Option E is wrong as it does not tax the gain on the sale, but taxes the increase in value of the transfer instead. 169