CG39100 - History TCGA92/Sch4B and 4C

TCGA92/Sch4B and 4C were introduced by FA 2000 to block an avoidance scheme commonly known as a flip-flop. Schedule 4C was extensively amended by FA 2003 and FA 2008. When they were introduced Schedules 4B and C applied to non-resident settlements and UK resident settlor-interested settlements taxed under TCGA92/S77. Since TCGA92/S77 was repealed by FA 2008 the legislation now applies only to non-resident settlements, TCGA92/Sch4B/para1.

Flip-flops before FA 2000
Flip-flops between FA 2000 and FA 2003

Flip-flops before FA 2000

»Ê¹ÚÌåÓýapp basic mechanics of a flip-flop before 2000 were as follows:

  • trustees of the first settlement hold assets with latent but unrealised gains
  • the trustees of the first settlement borrow funds secured on the value of the assets
  • the funds are transferred to a newly created second settlement with the same beneficiaries
  • the beneficiaries are excluded from any benefit under the first settlement
  • the trustees of the second settlement make loans or payments to the beneficiaries
  • the trustees of the first settlement sell the assets and repay the borrowing.

»Ê¹ÚÌåÓýapp avoidance worked because the beneficiaries did not have an interest in the first settlement at the time it accrued gains on the disposal of the assets. »Ê¹ÚÌåÓýapp second settlement in which the beneficiaries did have an interest only ever held cash.

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Flip-flops between FA 2000 and FA 2003

TCGA92/Sch4B attempted to block the avoidance by treating the trustees as making a market value disposal and re-acquisition of the trust assets. That is the way TCGA92/Sch4B still works. If TCGA92/S86 applies to the settlement the gain will be taxed on the settlor.

If the settlement was not settlor-interested TCGA/S87 applied and the gain was transferred to a TCGA92/Sch4C pool. That is also the way that TCGA92/Sch4C still works. »Ê¹ÚÌåÓýapp problem with the FA 2000 legislation was that it turned off TCGA92/S90 which applies when assets are transferred between trusts, see CG38910+.

Section 90 wasn’t a problem for the original version of the flip-flop because the first trust didn’t have any gains at the time of the transfer. By turning-off section 90 FA 2000 inadvertently created an avoidance opportunity if the trustees of the first settlement already had a stockpile of undistributed accrued gains. »Ê¹ÚÌåÓýapp basic mechanics of the new flip-flops were:

  • the trustees of the first settlement borrow funds secured on the value of the trust assets
  • the cash is transferred to a newly created second settlement with the same beneficiaries
  • the beneficiaries are excluded from any benefit under the first settlement
  • the trustees of the second settlement make loans or payments to the beneficiaries
  • the trustees of the first settlement repay the borrowing from existing trust resources.

»Ê¹ÚÌåÓýapp avoidance works because the stockpiled gains are not transferred to the second settlement. »Ê¹ÚÌåÓýapp trust assets in the first settlement are cash, gilts or the reinvested proceeds of earlier disposals which were not showing a gain. »Ê¹ÚÌåÓýapp trustees did not need to borrow funds to transfer cash to the second settlement. »Ê¹ÚÌåÓýapp purpose of the borrowing was so that TCGA92/Sch4B applied because that turned off TCGA92/S90. »Ê¹ÚÌåÓýapp fact that TCGA92/Sch4B imposed a market value disposal of the trust property didn’t matter because that deemed disposal produced no or a negligible gain. In effect anti-avoidance legislation was being used for avoidance purposes. »Ê¹ÚÌåÓýapp FA 2003 changes to TCGA92/Sch4C blocked this new avoidance by including the stockpiled gains in the Schedule 4C pool.

In fact HMRC were successful in challenging flip-flop avoidance by non-resident settlements using the arguments based on TCGA92/S97(5) described in CG38670.