One of the more depressing things about this time of year is the extent to which the figures for divorce and other relationship breakdowns peak in January. Is it the dreary weather, the financial stress of the Christmas bills, or simply having to spend a couple of intense weeks in each other’s company? Perhaps all of the above.
Though tax is not, of course, something that is or should be to the fore at such times, it does matter and should not be ignored.
Inheritance Tax and wills
For the purposes of Inheritance Tax (“IHT”), nothing changes until decree absolute. Neither separation nor even decree nisi has any tax effect: right up until decree absolute, transfers between spouses are exempt from IHT (limited to £325,000 where the transferee is not of UK domicile).
Contrary to common belief, a will does not become invalid on divorce: instead any will has effect as if the former spouse had died on the date of the divorce. This may or may not be a cause for concern, depending on the terms of the will.
If, for example, the will had left everything to the surviving spouse with no provision for the spouse’s pre-deceasing, a fresh will would be highly desirable in order to avoid the application of the rules of intestacy. But if the will had provided for other beneficiaries to take the spouse’s share in the event of the spouse’s pre-deceasing, it may be that no change is required.
In any event, the time to consider the point is before the divorce becomes absolute. Remember, too, that if your will creates a trust and appoints your spouse a trustee of it, a divorce will make that appointment ineffective. If you wish your (ex) spouse to be a trustee despite the divorce, you will need to make a new will.
If the couple’s estate planning has relied upon the availability of spouse exemption on death (and if no re-marriage is contemplated), the prospect of an IHT liability on death will need to be factored in, and alternative planning considered. Re-marriage will (unlike divorce) invalidate any previous will (unless it is made expressly in contemplation of marriage: the usual advice is that this is done, especially for people of more mature years, in order to avoid the nightmare scenario of dying intestate on honeymoon).
Capital Gains Tax and timing
For the purposes of Capital Gains Tax (“CGT”), the position may change long before divorce. The principal CGT benefit of marriage—namely the ability to transfer assets between spouses on a no-gain, no-loss basis—lasts only until the end of the tax year in which spouses separate if the separation is by deed, court order or otherwise likely to be permanent. So if, in January, you are at daggers drawn with your spouse, your accountant’s advice (should you think to ask him or her) is likely to be to stick it out until 6 April if you possibly can.
If on the date on which the no-gain no-loss treatment is lost (which will always be 5 April), spouses remain married, they will remain “connected persons” for CGT purposes until decree absolute. This interim period delivers the worst of both worlds in CGT terms. Any transfer of assets during this period is deemed to be made at market value, with CGT payable accordingly, but if the transfer results in a loss for CGT purposes, the loss is “clogged”. This means that it is not available against gains generally but can be used only against gains on any other disposals made to the spouse before the marriage ends. That, in practice, often makes the loss useless.
All of this applies equally for marriage and for civil partnership. It does not, however, apply to unmarried (or un-civil-partnered) cohabitees: “common law” marriage has no significance for the tax purposes mentioned above.
For more information on any of the topics covered, please get in touch with your usual BKL contact or use our enquiry form.