Exit tax (on a life insurance product or ETF) paid on death, can be set off against CAT

[Brendan Burgess]

This has been referred to in other threads, so I think it's worth setting out the rules and showing some examples. Corrections welcome. And links to good commentary are also very welcome

Note: The same rules apply to life insurance products and ETFs, but I will just refer to life insurance products for simplicity.

When a person who owns shares or property dies, the Capital Gains disappear so they inherit the gross estate.
When a person who owns a Life Insurance product dies, the Exit Tax is deducted and the net is paid to the estate.
But the beneficiaries can claim a credit for the Exit Tax against any liability they have to Capital Acquisitions Tax.
The CAT is calculated by reference to the Pre-Exit Tax value of the Bond.

https://www.standardlife.ie/adviser/docs/exit-tax-offset-against-inheritance-tax.pdf

Zurich Life : Understanding Exit Tax on Savings and Investments

While this set-off is valuable, it does not make investing in a Life Insurance fund better than owning shares directly from a tax point of view.

 

[Brendan Burgess]

Let's look at the bit above the CAT threshold on its own

 

[Brendan Burgess]

After 8 years, the life insurance company must deduct 38% Exit Tax in a Deemed Disposal event.

I assumed that this could not be set off against any future liability to CAT. This put the life insurance product at a huge disadvantage to direct ownership of shares.

But then I was told that it could and I corrected my example accordingly.

And then someone else said it could not.

I do not know the answer to this question.

 

[Fortune]

Every 8 years, Exit Tax is payable and it cannot be claimed as a credit against future CAT.

The deemed exit tax is taken into account in the calculation of the exit tax on death. The deemed disposal only has an effect on compounding gains.

 

[smarts]

The subject to CAT figure for the life assurance product is incorrect, should be net estate less threshold

 

[Brendan Burgess]

The subject to CAT figure for the life assurance product is incorrect, should be net estate less threshold

In my first draft I did it that way, but then I read the Standard Life guide linked to above.

 

[LarryScott]

Do you know if the tax deduction applies to ETFs also, since they are taxed similarly to life funds?

Yes, they do.

That is interesting.

That means that a single person leaving ETFs has closer to same efficiency as leaving shares (assuming thresholds are low).

Assuming an investment with a 6% return over 24 years, these are the net gifts.


ETF

Year	Pre-tax	Tax	Net
0			100k
8	159.4k	22.6k	136.8k
16	218.1k	30.9k	187.2k
24	298.4k	42.2k	256.1k
Total		95.7k

The person dies with 256.1k of ETFs and 95.7k of deemed disposal payments.

If they leave it to a 40k threshold beneficiary, then that beneficiary would have to pay CAT including the deemed disposal amount.

Gift: 256.1k + 95.7k = 351.8k
Threshold: 40k
Taxable: 311.8k
CAT: 102.9k
Offset: 95.7k
Final tax: 7.2k

Net gift: 248.9k

If the beneficiary was a child, their CAT threshold would mean no CAT at all, and the deemed disposal tax refund would have no effect.

Net gift: 256.1k

Shares

Initial value: 100k
Final value: 404.9k

CGT liability dies with donor.

Gift: 404.9k
Threshold: 40k
Taxable: 364.9
CAT: 120.4k

Net gift: 284.5k

If the beneficiary was a child, their CAT would mean also no CAT.

Gift 404.9k
Taxable: 4.9k
CAT: 1.6k

Net gift: 403.3k

Conclusion

For a single person, holding ETFs until death results in around the same net gift as holding CGT assets. Though CGT is still slightly better.

 

[LarryScott]

These are the results. I can't seem to copy/paste from Excel. Sorry about the formatting.

Nephew

Initial    Net Gift ETF    Net Gift Shares    Diff    Diff(%)
   100        248.9           284.5           35.6     14.3
   200        484.6           555.8           71.1     14.7
   300        720.3           827.0           106.7    14.8
   400        956.0           1098.3          142.3    14.9
   500        1191.7          1369.6          177.9    14.9
   600        1427.4          1640.9          213.4    15.0
   700        1663.1          1912.2          249.0    15.0
   800        1898.8          2183.4          284.6    15.0

Child

Initial    Net Gift ETF    Net Gift Shares    Diff    Diff(%)
    100       256.1            403.3          147.2    57.5
    200       512.2            674.6          162.3    31.7
    300       768.3            945.8          177.5    23.1
    400       1024.5           1217.1         192.7    18.8
    500       1280.6           1488.4         207.8    16.2
    600       1536.7           1759.7         223.0    14.5
    700       1781.9           2031.0         249.0    14.0
    800       2017.6           2302.2         284.6    14.1

For large amounts, the thresholds matter less.

ETFs no matter the beneficiary, and shares to a nephew, give around the same net gift. Share are still slightly better (14-15%).

Shares to children, especially when the threshold dominates are the best.

The 14% is low enough that the added diversification of an ETF may be a winner.

Another thing to keep in mind is that ETFs don't use the threshold. This probably needs a new post .

 

[smarts]

what specific revenue guidance confirms this approach is correct for ETFs? I can’t find anything online

 

[Duke of Marmalade]

Thanks. I have corrected for that now.

@Fortune
This is a very controversial area. I know we are not meant to use AI in these parts but I do like to bounce things off Gemini. She insists that it is only the amount payable as a result of the death that can be offset against CAT. She insists that deemed disposal is money already paid and that it is the payment that counts. I put it to her an example of DD having occurred a week before death and she insists that is double taxation and nothing you can do about it. She cites the Taxes Act (which I didn't check) and says that this is a very sore point for ETF folk. How do we resolve this?

 

[Protocol]

DD tax payments at years 8, 16, etc. are an advance payment against the actual exit tax due at encashment.

If the rate of exit tax is cut, or if the funds don't do well, you could get tax back at encashment.

I am not referring to CAT or CGT here.

I am saying that AFAIK, the LAET tax deducted at years 8, 16, etc. are a pre-payment of the actual LAET tax due at encashement.

 

[Duke of Marmalade]

If the rate of exit tax is cut, or if the funds don't do well, you could get tax back at encashment.

That is absolutely true but I consulted another of these AI posers copilot. He agrees entirely with Gemini. The law states explicitly that you can only get a CGT-type reduction in CAT to the extent that the LAET was actually borne by the estate at the time of death and so earlier payments on account are ignored. Very unfair and illogical I know and maybe this is just AI hallucination, but I am not seeing any firm rebuttal of what they are saying.

 

[Duke of Marmalade]

ChatGPT confidently told me the other day...

I know it is regulation in these parts to expose the wickedness of AI. So I traced this technical note from Standard Life. I now see that it is actually in OP @Brendan Burgess you were right in your first analysis.

The starting point is the value of the policy before the exit tax on the deemed disposal on death.
Admittedly this example was for death at the 7 year duration.
But it seems to me that this is how it would work after the 8 year deemed disposal as that reduces the value of the estate before any deemed disposal on the death itself. One can understand why the Standard Life technical note did not discuss the example of death after the 8 year deemed disposal as it is an unfair weakness in the LAET regime.
I would like to hear other informed views on this matter.

 

[Corola]

what specific revenue guidance confirms this approach is correct for ETFs? I can’t find anything online

There is explicitly no specific guidance for ETFs, the Revenue guidance says they follow the same rules as investment funds.

 

[Duke of Marmalade]

what specific revenue guidance confirms this approach is correct for ETFs? I can’t find anything online

The approach used by @LarryScott was what I thought it should be but it seems that it is incorrect. The amount of the estate is its value at the time of death with the addition of any tax that was paid on an asset arising from that death. The payment can then be set against any CAT arising from that asset.

 

[Brendan Burgess]

The amount of the estate is its value at the time of death with the addition of any tax that was paid on an asset arising from that death.

I don't know the answer and have amended my initial posts accordingly.

But say John paid €20k on Deemed Disposal 3 years ago.
He dies when the gross value is €200k with €10k Exit Tax due.
It's a simple enough matter for the life company to say that the gross value is €230k with €30k Exit Tax due, €20k of which has been paid on account.

I am not saying that this is correct. I am just saying that it would be a reasonable interpretation and it would be a much fairer way of doing it.

 

[Corola]

It's a simple enough matter for the life company to say that the gross value is €230k with €30k Exit

That is what they do, in the Zurich link from the first post they add back the tax to get the gross value for a disposal:

How to calculate the total gain:
Total Gain = Final value on maturity + Previous tax paid – Amount invested

 

[Duke of Marmalade]

I don't know the answer and have amended my initial posts accordingly.

I think it is important that we get an answer. I am fairly certain that I was initially wrong and the correct approach is to regard the tax payable on death as a result of the deemed chargeable event triggered by that death as the amount available for offset against CAT. Unfortunately I got up everybody's nose my referring to the unmentionables. I have learnt my lesson

It's a simple enough matter for the life company to say that the gross value is €230k with €30k Exit Tax due, €20k of which has been paid on account.

It is certainly very simple and @LarryScott has provided full figures on that interpretation.

I am just saying that it would be a reasonable interpretation and it would be a much fairer way of doing it.

"fairer"? That was my initial thought. Certainly fairer by reference to the treatment of CGT which is eminently unfair in the opposite direction. But think about the old life policies of which there are still some around. They are taxed internally on a year by year basis. There is no question of adding any of that taxation back, calculating CAT and then giving credit for that taxation.

 

[Duke of Marmalade]

How to calculate the total gain:
Total Gain = Final value on maturity + Previous tax paid – Amount invested

Absolutely.
But when it comes to CAT this is what they say:
Inheritance Tax: Exit tax deducted on death of policy owner may be offset against inheritance tax due on the same policy for the beneficiary. The inheritance tax liability is calculated before Exit Tax is applied. Both below conditions must be met:• the same event must give rise to both the exit tax and inheritance tax.• the exit tax can only be used to offset against inheritance tax in respect of the same policy.

My emphasis. This is key. The event is death and the exit tax payable on death does not include previous tax paid.
Also note that the liability is calculated "before Exit Tax is applied". Clearly this means the Exit Tax now due on the deemed chargeable event of death. In practical terms the executor asks the life company for the value of the policy or else looks up the value of the ETFs- neither of these will have previous DD tax added.

 

[Corola]

I think that's just semantics. The total amount payable is the pre-paid tax at deemed disposal plus the remaining tax due at final disposal.

The death event is giving rise to both of those amounts, but only the second payment is actually handed over to Revenue.