How Can A Deed Of Variation Help Prevent Family Conflict

Wills have a unique nature amongst the documents we prepare during our lifetimes because, by the time they are needed, the testator is no longer around to clarify what they intended. If ever there were a document which must properly reflect the drafter’s intentions, there is a good case for it being the will. Yet, even the most perfectly drafted and thoughtfully considered of wills is at the whim of forces beyond the testator’s (or indeed their solicitor’s) control. Changing family circumstances, new or revised laws or an unwelcome Budget can fundamentally change how a will is going to operate in the future.

For beneficiaries dealing with grief, the last thing they want to hear is that the will does not accomplish what the testator wished to achieve, squanders opportunities or, in the worst of cases, actively causes hardship. Whilst beneficiaries could attempt to fix such deficiencies personally, this solution is almost certainly going to create another layer of potential problems and tax consequences for themselves, both immediate and future. Often a much better alternative is the preparation of a Deed of Variation, which allows the beneficiaries of an estate to rearrange its distribution, with those changes being treated for tax purposes as if they had been made by the testator themself.

So what issues and conflicts can a Deed of Variation potentially fix?

Avoiding a second Inheritance Tax (IHT) charge by skipping a generation.

Expanding life expectancies means that it is increasingly common for beneficiaries to have already started their own estate planning long before they are likely to receive an inheritance. A beneficiary, having taken financial advice or assessed their own circumstances, may decide that they are satisfied with their own plan for retirement. In such circumstances, they may see a potential inheritance as something they are fortunate enough not to need, but which would nevertheless be taxed at 40% upon their own death before it passes to their own heirs.

Those heirs may well not be in the same fortunate financial position and a beneficiary could decide that they would rather see their inheritance in the hands of those who need it more, at the same time as substantially reducing their own estate’s tax liabilities. Whilst the beneficiary could simply transfer any inheritance to their own heirs, this would be considered a lifetime transfer for IHT purposes and remain potentially chargeable within their estate for 7 years. By preparing a Deed of Variation, however, the beneficiary could ensure that any changes would be ‘read-back’ into the Will and treated as having been made by the testator themselves for tax purposes, completing removing it from the beneficiary’s own estate for IHT purposes.

Recapturing tax reliefs which would otherwise be wasted.

There is much to be said for keeping things simple, but due to the deep intertwinement between wills and tax legislation, there is a risk that the pursuit of simplicity may come at the expense of valuable tax reliefs and flexibility in the future.

Take the example of a husband and wife who own a family farm or business, which are eligible for Agricultural Relief (AR) or Business Relief (BR), and are inclined for their entire estate to pass to the survivor upon the first death. Given that all transfers between spouses are exempt from IHT, for them to prepare wills on that basis may seem innocuous. This would, however, see the hugely valuable reliefs go unused upon the first death with the relievable assets forming part of the survivor’s estate.

For a family that finds themselves in such a situation, an alternative option would be for them to prepare a Deed of Variation redirecting any relievable assets belonging to the first to die to a discretionary trust, from which the surviving spouse could be entitled to benefit as a potential beneficiary. This would not lead to any additional IHT liability, because the relievable assets are exempt from IHT in their own right, but it would ensure that the reliefs were claimed, and afford them much greater flexibility in terms of succession in the future, which can avoid conflict between beneficiaries regarding the future ownership of the family farm or business.

Another example is a will or intestacy under which children or grandchildren inherit the estate alongside the testator’s spouse. Depending on the estate’s constitution, an IHT liability could arise which would not have done had all or most of the estate had passed to the surviving spouse. Whilst family circumstances will dictate whether this is appropriate, the family as a whole may be better able to manage its IHT liability by redirecting all or part of the estate to take advantage of the spousal exemption.

Giving more to charity at no or minimal cost to the estate.

It is well known that estates can benefit from a reduced 36% rate of IHT where 10% of their baseline value passes to charity. Depending on a testator’s wider wishes (as well as tax changes generally), however, they cannot always predict whether the percentage of their estate passing to charity will meet this threshold. Or indeed a testator may have wanted to leave some of their estate to charity, but without any attempt to reach the 10% threshold.

The testator’s family may, in the future, therefore find themselves in a situation where 1% – 9% of the estate passes to charity but HMRC is still charging the higher 40% rate of IHT. The family may be surprised if they were to calculate the net cost to the estate (and therefore the impact on their inheritance) if they were to increase the share of the estate passing to charity, by a Deed of Variation.

Whilst the precise figures will depend on the constitution of each estate, a 4% charitable starting point is usually the point at which an increase to 10% will have a neutral impact on their inheritance, whilst of course substantially increasing the amount going to charity. With higher charitable starting points, beneficiaries can usually expect to actually receive a higher inheritance, taking into account the effect the lower rate of IHT will have on the estate overall, whilst still giving more to charity.

This can have an additional appeal if the family has a close interest in a particular charity, or manages a charitable foundation.

Redistributing assets to beneficiaries overlooked by an out of date will or excluded by the Intestacy Rules.

Whilst the current government is consulting on increasing the rights of cohabitees on the death of a partner, for the time being it remains the case that non-married partners have very few rights and are entirely overlooked by the intestacy rules. There are also circumstances where a testator dies before having had the opportunity to update their will following the birth of a child or grandchild (or other intended heir), or following a marriage, to reflect their revised wishes. In such cases, a potential heir with a clear expectation of inheritance will likely have been excluded by the wording of the will or intestacy rules.

The law affords such disappointed beneficiaries routes to challenge their exclusion, but these invariably involve court proceedings, the costs of which can be considerable and will severely deplete the estate and beneficiaries’ wider resources. Whilst an agreement will of course not always be possible, a Deed of Variation offers the beneficiaries a way to fairly redistribute an estate in a much more cost-effective manner, and head off or conclude any legal claims as early as possible, if an agreement can be reached.

Creation of trusts to support vulnerable beneficiaries or manage finances.

Deeds of Variation can also be used to direct assets or funds for the support and care of disabled beneficiaries, sometimes creating a disabled person’s trust where this allows for better management of their finances. Further, a beneficiary may independently decide that they would prefer that their inheritance be paid to a trust, rather than to them personally, as part of their own estate and tax planning, which they can achieve with a Deed of Variation.