Chapter 11 - Trusts

Question 1

Parties to a Trust

Answer 1

Settlor
* Creates the trust
* Potentially the original assets’ owner
* If gifted assets to the trust, considered a disposal for tax purposes

Trustees
* Responsible for looking after the trust and fulfilling any duties such as tax returns
* Official owner of the assets
* Must abide by the trust deed

Beneficiaries
* Whom the asset is likely to belong too when the trust has served it’s purpose
* Could be entitled to income or capital

Question 2

Bare Trust

Answer 2

• Type of absolute trust
• Holds an asset for a named beneficiary (often a minor until they reach age 18), which cannot be changed
• Asset is owned by the beneficiary, but the trustees act as a nominee

Question 3

Interest in possession trust (IiP)

Answer 3

• Also known as life interest trust
• Can have more than one beneficiary
• Beneficiaries entitled to income, known as life tenant, not entitled to capital
• Beneficiaries entitled to capital, known as remaindermen, not entitled to the income

Question 4

Discretionary Trust

Answer 4

• Often used for IHT planning
• Trustees have discretion on when and to whom they pay income/capital
• Must respect the trust deed, so discretion has to be within reason
• Most flexible

Question 5

Vulnerable Persons Trust

Answer 5

• Must meet certain criteria to be classified
• 2 types are disabled trust and relevant minor trust

Question 6

Vulnerable Persons Trust

Disabled Trust

Answer 6

• Unable to manage own affairs due to mental disorder
• Received AA/DLA or PiP
• Income and capital is all for the beneficiaries benefit

Question 7

Vulnerable Persons Trust

Relevant minor trust

Answer 7

• Under 18
• Deceased parent or parents
• Statutory trusts, set up from will of deceased parent
• Money can only be distributed by the trustees to the beneficiary
• Ownership of trusts assets taken at age 18

Question 8

Types of trusts that are PET’s

Answer 8

• Bare
• Vulnerable person
• Immediate Post Death interest trust (IPDI) / Will Trusts
• Interest in possession (Taken out Pre March 2006)

In beneficiaries estate

Question 9

Types of trusts that are CLT’s

Answer 9

• Interest in possession (Post March 2006)
• Discretionary

Exit and Period charges apply
Not in anyone’s estate

Question 10

IHT on death of beneficiary

Bare/Vulnerable persons trust

Answer 10

Treated as part of the beneficiaries estate if they die

Question 11

IHT on death of beneficiary

Interest in possession Trust

Answer 11

• Pre 2006 - On death of life tenant value of the trust is added to the estate, even though they never touched the cash. Known as settled property
• Post 2006 - Not deemed to be in the estate of the life tenant

Post 2006 is the one to know out of the 2, as more likely to come up in the exam

Question 12

IHT on death of beneficiary

Discretionary Trust

Answer 12

• No IHT implications on death of a potential beneficiary.
• Whilst they would be named on the trust, these can be changed at any time

Question 13

Taxation of Bare Trust- Inheritance Tax

Answer 13

• Gift into Trust = PET (7 year rule applies)
• When in the trust, treated as part of beneficiaries estate

Question 14

Taxation of Bare Trust - Income Tax

Answer 14

• Applies to income retained within the trust or any income distributed from the trust.
• Beneficiary liable at their own rates, even if not distributed
• If beneficiary is unmarried minor of the settlor, the £100 rule applies -
• If income gained is over £100, treated as income of the settlor

Question 15

Taxation of Bare Trust - CGT

Answer 15

• Transfer/gift into trust counts as a disposal, no holdover relief available
• Gains made within
• Gains made on distribution
• Taxed at beneficiaries own rates after CGT allowance used

Question 16

Taxation of Interest in possession Trust - Income Tax

Answer 16

• Income must be distributed to the life tenant.
• The income keeps it’s form, so distributed as either dividend or interest depending on how it came into the trust.
• Must be distributed net of basic rate tax - so trustees pay to HMRC
• Then corrected when in the hands of the life tenant, either reclaim or pay more depending on their own income tax band & allowances.
• e.g. if they receive dividends and they have their £500 allowance available, they would have to claim the relevant tax back from HMRC

Question 17

Taxation of Interest in possession Trust - CGT

Answer 17

• Gift into trust = disposal, holdover relief available if set up post 22/03/2006
• Gains made within trust taxed at 24% after allowance used
• Trust has it’s own CGT exemption of £1,500. Split between trusts established by the same settlor.
• Max of 5 trusts are able to split the allowance
• Minimum of £300 per trust if more than 5
• Holdover relief available on distribution of capital to remainderman

Question 18

Taxation of Interest in possession Trust - IHT

Answer 18

• Gift into the trust is a CLT
• Set up pre 2006 - On death of life tenant value of the trust is added to the estate, even though they never touched the cash. Known as settled property
• Set up post 2006 - Not deemed to be in the estate of the life tenant

Question 19

Interest in possession trust - Example

Carly is a life tenant of an IIP and is a higher rate tax payer. In the current tax year she has received £4,000 of interest from the trust.

Explain the steps Carly needs to take with HMRC in relation to this interest.

Answer 19

• Gross interest = £5,000 (£4,000 / 0.8)
• As HRT she will have further tax to pay (extra 20%) on the gross
• £5,000 @ 20% = £1,000
• If she has her PSA available (£500) can use that to reduce her liability.

The exam would tell you if she has her PSA available or not for the calculation

Question 20

Taxation of Discretionary Trust- Income Tax

Answer 20

• £500 income exemption
• Can be divided to max of 5 trusts (£100 per trust min)
• If income exceeds the exemption, all of it is taxed at additional rate
• 45% or 39.35% if dividend income is not distributed
• Income is paid with a tax credit of 45%, which can be adjusted to the beneficiary marginal rate via tax return.
• Classed as Trust income - so the source of income (interest/dividend) is lost
• Discretionary trusts cannot benefit from PSA or DA
• Beneficiaries can use their personal allowance to claim back

If settlor has more than 5 trusts, they all get £100 exemption each. Does not divide further than 5 times

Question 21

Taxation of Discretionary Trust- Income Tax Example

Spencer with an income of £25k has received an income distribution of £11,000 from a discretionary trust.

Explain to spencer how the distribution would be made to him and why he should speak to HMRC about this.

Answer 21

• Taxed at 45%, as he is and will remain a BRT, he can reclaim 25% tax from HMRC.
• £11,000 x 0.55 = £20k gross @ 25% = £5,000 reclaimable

Question 22

Taxation of Discretionary Trust- CGT

Answer 22

• Gift into trust treated as disposal
• Gains within trust taxed at 24%
• Trust has it’s own CGT exemption of £1,500 (see footnote)
• Holdover relief available on distribution of capital to beneficiaries

CGT exemption split between trusts that are established by the same settlor, to a maximum of 5

Question 23

Taxation of Discretionary Trust- IHT

Answer 23

• Gift into trust is a CLT
• No IHT implications on death of a potential beneficiary

Question 24

Taxation of Vulnerable persons Trust- Income Tax

As these are created in unique circumstances, once the criteria has been met the trustees can establish them as whatever trust they like

Answer 24

• Trustees can deduct the difference between the actual trust taxation that akin to a bare trust
• Meaning bare trust rules apply

Question 25

Taxation of Vulnerable persons Trust- CGT ## Footnote As these are created in unique circumstances, once the criteria has been met the trustees can establish them as whatever trust they like

Answer 25

* Trustees can deduct the difference between the actual trust taxation that akin to a bare trust * Meaning bare trust rules apply

Question 26

Taxation of Vulnerable persons Trust - IHT ## Footnote As these are created in unique circumstances, once the criteria has been met the trustees can establish them as whatever trust they like

Answer 26

* Treated as a PET even if established as a discretionary trust