I believe the changes that your colleague is referring to are the effects of the Marina Silver case – Silver [2019] TC 07103.
FA 2020 introduced two fundamental changes to the TSR calculation, which I explain further below:
- The personal allowance is to be recalculated based on the income where the apportioned CEG is included as opposed to the full amount of the CEG
- Allowances and reliefs are to be allocated against non-CEG income first
As a CEG is taxed when it is realised as opposed to when it is accrued, there may be an excessive tax burden since the growth of the policy is taxed in one single year as opposed to over the term of the policy as it is accrued. Generally speaking, TSR is available where the CEG pushes the taxpayer into a higher tax band than they would have been in, had the CEG not been realised.
The calculation of TSR (found in s.536/s537 ITTOIA 2005) contains various steps and includes a hypothetical calculation to determine the additional tax due where only a proportion of the CEG is added to the taxpayer’s income for the year concerned.
One of the points contested in the Marina Silver case, was the way the personal allowance was applied in this calculation. Like your client, a large CEG in the year resulted in Mrs. Silver’s income being in excess of £100,000 and her personal allowance was tapered as a consequence (s.35 ITA 2007).
Under the TSR calculation, when Mrs. Silver’s relevant proportion of her CEG was added to the rest of her income, this amounted to c.£36,000. Mrs. Silver believed that she would therefore be entitled to personal allowance when doing the TSR calculation. This would of course provide for further relief overall.
HMRC disagreed with this point and argued that the personal allowance to be taken into account for the TSR calculation was the personal allowance as reduced by s.35(2) ITA 2007. The FTT agreed with Mrs. Silver on this point and consequently, the availability of the personal allowance and the effect of TSR calculation meant she had no further tax liability.
For a while, this left people querying how taxpayers in the same position with a CEG should apply the TSR calculation as given that it was a FTT decision, it doesn’t set precedence. Some helpful changes were brought in by S.37 Finance Act 2020 which amended s535 to s537 ITTOIA 2005 to clarify the availability of the personal allowances in the TSR calculation and brought it in line with the decision in the Silver case.
Transitional rules in s. 37(6) FA 20 were also introduced indicating that the amendments would only apply to CEGs realised after 11 March 2020. However, HMRC, by concession, may apply the treatment to all CEGs arising from 2018/19 onwards (see IPTM3820 which also includes various examples on the new rules).
In summary, the changes effected by the Silver case on the interaction of the TSR calculation and personal allowance may be applied to your client’s case. However, as your client’s CEG arose prior to 11 March 2020, the treatment may only be applied by HMRC concession, as strictly under legislation, the amendments mentioned above do not apply. Please also note that whilst the full personal allowance might not be reduced in the TSR calculation, it would still be tapered when looking at the client’s actual tax calculation for the year.
Also, bear in mind that s.37 FA 2020 amendments also means that under the TSR calculation, we need to allocate the allowances available against other income as far as possible in preference to the gain i.e. we can’t offset allowances in what may be the most beneficial way. Again, whilst the transitional provision suggests that the amendments would only apply for CEGs arising after 11 March 2020, HMRC’s comments in IPTM3820 suggests that this simply clarifies the position and there may be a likelihood that they may also apply this change to your client’s TSR calculation.
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