The inheritance tax (IHT) treatment of trusts has been in the news recently as a result of proposed changes that are likely to be included in Finance Act 2015. We are yet to see draft legislation but understand that the Government intends the revised rules to apply to trusts created after 6 June 2014, including any additions of capital into existing trusts after that date. Using case studies we have set out how the rules might apply.
Derek created his first trust in February 2007 and transferred £285,000 cash into it. As he has survived seven years, this is outside his estate, saving £114,000 in IHT .
This trust is in the Relevant Property Regime, with potential IHT entry, exit, and “periodic charges” every ten years. There was no entry charge as the transfer was within Derek’s nil rate band (NRB); but there could be ten year anniversary charges and exit charges if capital is taken out. When calculating these charges, the existing rules should continue to apply so a full NRB allowance (currently £325,000) can be deducted before calculating the IHT. The trust may also benefit from simplified calculations under the new rules.
Derek would like to transfer a further £325,000 into trust. A new trust should be used to avoid having one trust taxed partly under the old rules and partly under the new rules. This trust will also be within the Relevant Property Regime but, under the new rules, Derek will have a settlement nil rate band (SNRB) to allocate between any trusts he sets up after 6 June 2014, including any will trusts.
The introduction of an SNRB means that, where multiple trusts are created, IHT anniversary and exit charges could be higher than under the existing rules, because trusts will only have a proportion of the SNRB, rather than a full NRB. However, the further planning is still worthwhile: assuming Derek survives seven years, he will save another £130,000 in IHT.
Katy wants her assets of £1.5 million to remain in trust after her death, so she was advised to set up five discretionary “pilot” trusts on consecutive days, and leave one fifth of her estate to each trust under her will. If Katy had died before 6 June 2014, each trust would have had a full NRB when calculating relevant property charges.
However, under the new rules, the trusts will have to share one SNRB and so there is no IHT advantage in using five trusts, although there may be other reasons to use multiple trusts. If Katy wants to review her will, she may prefer to wait until the new legislation has been finalised.
Mavis is the life tenant of her late husband’s will trust. This is an Immediate Post Death Interest and is one of the few types of trust not taxed under the Relevant Property Regime. Instead, the trust fund will be liable to IHT on her death and, unless assets pass outright to individuals at that stage, the trust will then enter the Relevant Property Regime. Mavis’ executors will need to consider the allocation of her SNRB for future IHT charges.
The proposed changes may not deliver the originally promised “simplification” of the taxation of trusts but neither do they signal the end of the trust as a valuable means of planning. Although in some cases the SNRB may mean higher IHT charges, in many cases this will be outweighed by the continued benefits of the trust structure in providing tax planning opportunities, maintaining control, and providing flexibility and protection.
People will need to consider their options carefully and should seek proper advice to see how the new rules affect their plans.