Applying the Upper Tribunal's decision in Gilchrist v HMRC [2014] UKUT 169 (TCC) (see Legal update, Scrip dividends not income in trust law: Upper Tribunal not bound by High Court decision), the First-tier Tribunal (FTT) (Judge Jonathan Cannan and Mr John Wilson) held that, for inheritance tax (IHT) purposes, a scrip dividend constituted capital (and not income) in the hands of the trustees of a discretionary trust and should therefore be taken into account when calculating the relevant property regime exit charge on a subsequent trust distribution (see Practice note, Taxation of UK trusts: inheritance tax: Relevant property trusts: when IHT is charged). In deciding this point, the FTT considered itself bound by the Upper Tribunal's decision in Gilchrist and not by the conflicting High Court decision in Pierce and others v Wood and others [2009] EWHC 3225 (Ch) (see Legal update, High Court confirms scrip dividends are income for both trust law and tax law purposes (detailed update)). This was on the basis that, from the FTT's perspective, decisions of the High Court and Upper Tribunal were effectively of equal authority, and that when faced with two conflicting first instance authorities, the FTT was bound to follow the later authority provided that authority had fully considered the earlier authorities (Colchester Estates (Cardiff) v Carlton Inductries Plc [1986] Ch 80). Having found that it was bound by Gilchrist, the FTT did not express a view as to whether it preferred the reasoning in Gilchrist to that in Pierce v Wood.

When it came to calculating the rate of the exit charge (which arose before the tenth anniversary of the trust's creation), the FTT held that, for the purposes of determining the amount of the hypothetical chargeable transfer, the scrip dividend counted as property which became comprised in the trust after the trust commenced (see section 68(5)(c), Inheritance Tax Act 1984 and Practice note, Inheritance tax: relevant property trusts: calculating the charge to tax: Exit charges before the first ten-year anniversary). While accepting that the payment of the scrip dividend to the trustees was not a chargeable transfer for IHT purposes, the FTT rejected the trustees' argument that only property becoming comprised in the trust by way of a chargeable transfer should be taken into account under section 68(5)(c). It was sufficient that the scrip dividend involved new shares becoming comprised in the trust, and those new shares were neither replacements for, nor component parts of, the original shares held by the trustees from which the entitlement to the scrip dividend arose.

The conflicting authorities on the treatment of scrip dividends for IHT purposes are unhelpful for trustees. However, it seems that capital treatment (following the decision in Gilchrist) will prevail at least until such time as the issue is tested before the Court of Appeal.

Case: Meena Seddon Settlement v HMRC [2015] UKFTT 140 (TC) (Bailii).