Further ‘simplifications’ around the taxation of trusts in the pipeline.
Prior to 22 March 2006, the taxation of trusts was relatively simple: there were settlements with an interest in possession and discretionary trusts. A special type of discretionary trust was an accumulation and maintenance trust, usually settled by grandparents to provide for their grandchildren.
The Finance Act 2006 changed this by ‘simplifying’ the taxation of trusts, so that we can no longer create an interest in possession trust during our lifetime unless it is for a disabled beneficiary and accumulation and maintenance trusts have now entered the discretionary regime.
An immediate post-death interest in possession trust (IPDI) can now be created by will and there are special rules for testamentary gifts for young children of the testator (bereaved minor trusts) and 18-25 trusts. We now have discretionary trusts, pre-2006 interest in possession trusts, IPDIs, disabled persons’ trusts, bereaved minors’ trusts and 18-25 trusts.
The Finance Bill 2014 now proposes a further ‘simplification’ process, proposing that the settlor’s cumulative chargeable transfers, which refresh every year, be ignored and it will not be necessary to consider the value of any property settled on the same day into another trust (a related settlement). Instead, a flat rate of 6% is suggested for all exit and periodic charges and the benefit of the IHT nil rate band will be shared between all relevant property trusts settled by the settlor. This would include trusts already in existence as well as new trusts.
Illustration
James set up a discretionary trust for his grandchildren on 1 June 2010, settling a property with a market value of £900,000.
He had previously created a discretionary trust for his daughter on 5 November 1990 and another for his son of £100,000.
He had also put £50,000 into a trust for his nephew on 31 March 2008.
On 1 June 2014, the trustees of the grandchildren’s settlement made a capital appointment of £200,000 to one of the grandsons absolutely. The beneficiary paid the tax.
Under the current rules
IHT
£ £
Brought forward 50,000
Value settled 900,000 125,000
950,000 125,000
The initial rate is:
125,000/900,000 X 100 = 13.89%
The rate of tax payable is:
13.89% X 30% X 16/40 = 1.67%.
The tax paid by the beneficiary would be £200,000 X 1.67% = £3,340.
New proposals
- The initial value settled on the grandchildren was £900,000, but James has created 4 relevant property trusts, so the nil rate band is £81,250. The value charged will be £900.000 – £81,250 = £818,750. This will be charged at 6%, so the tax would be £49,125.
- The initial rate is therefore £49,125/900,000 X 100 = 5.458%
- The tax payable by the beneficiary is therefore 5.458% X 16/40 X £200,000 = £4,366.40.
The new proposals give rise to several problems: the first is that the trustees may have no idea how many trusts the settlor has made. Another is that splitting the nil rate band has no regard for the value in the trust; a trust of only £10 may significantly dilute the nil rate band. There is no de minimis.
Accumulations
Another change in the Finance Bill 2014 is that the legislation attempts to define accumulations as income that arose more than five years before the ten-year anniversary. Until now, there has been no definite decision as to when income has been accumulated, in the absence of a trustees’ resolution to accumulate. Any deemed accumulations will attract the full anniversary rate of tax, whereas accumulations made as a result of trustees’ resolutions will attract a discounted rate, dependent upon how long it has formed part of the trust capital.
Article contributed by ACCA