Trusts Now
When you read this article the Finance Act 2006 will be law. Since I last wrote, the Chancellor has been persuaded to back off on certain of his proposals, not least perhaps the most controversial, the threat of the loss of surviving spouse exemption under the Inheritance Tax Rules, unless the surviving spouse were left all the assets completely and freed from any trusts. Amendments were sneaked into the Committee when nobody was looking and the situation now with regard to surviving spouse remains as it was before the Budget. What this means is that any gift to the surviving spouse in a Will is free of inheritance tax. One the fears for the Wills draftsman was that the relief might be lost if funds were held in trust for the wife or husband, but this is not the case, and so we really are back to square 1. Thus any gift to the surviving spouse in a Will is free of inheritance tax.
But what about the kids? Trusts for beneficiaries other than surviving spouses will be taxed, if at all, in one way, whatever the form of trust might be, unless the child receives all the capital of the trust on his or her 18th Birthday.
There are broadly two scenarios, when one is considering trusts created for children by Will. The first scenario anticipates children receiving all the capital at 18. Such a trust does not pay tax under the new regime, provided that the children actually inherit at age 18. The Trustees may think that this is in appropriate and, if the Will has sufficient powers the Trustees might be able to circumvent the 18th Birthday by making, what is known as, a “settled appointment”, effectively themselves creating a trust until the beneficiary is a bit older, say 25 years, and if they do that then the new tax regime applies. Assuming that they do not, then this form of trust is now called a Bereaved Minors Trust, not that that matters, and it is all that remains of the old Accumulation and Maintenance Trust. Note that such a trust can only benefit the minor child of the testator.
If the testator chooses to select an age greater than 18, say 25, then the tax is governed by Section 71D of the Inheritance Taxes Act and taxed under the Discretionary Trust Regime. What this means is that until the beneficiary is 18, then the Bereaved Minors Regime applies, and between the ages of 18 and 25 the new tax regime applies. Assuming that the trust fund is more than the nil rate band for inheritance tax purposes, then the excess is in effect taxed a 0.6% per annum, a total over the 7 year period of 4.6% (you may remember from my previous article that the Discretionary Trust Tax Regime charges 6% every 10 years, which equates to 0.6% per annum).
With the Section 71D trust, the Trustees may, assuming that they have the power pay the capital out early, and bring the trust to an end, and so the tax regime would only apply for the lifetime of the trust itself.
These trusts can only be created by Will, and only for the benefit of the testator’s minor child. Another way to benefit a child is a Bare Trust, which has not been affected by the new tax regime. This would be a lifetime trust where property is transferred to Bare Trustees. The property in the trust effectively belongs to the minor, but a minor cannot give a receipt, and so the Trustees hold it for his or her benefit. During the lifetime of the trust, the new tax regime does not apply, and the infant beneficiary may take full advantage of his or her own tax allowances. The downside is that the trust must come to an end on the 18th Birthday of the beneficiary when the trust fund must be handed over.
It is perhaps worth noting that if any trust is below the nil rate band for inheritance tax purposes, then it does not trigger a charge to the new tax regime. It is only ever the excess over the nil rate band that is taxed.
The exception to all the changes in the trust tax regime is the trust for disabled beneficiaries. These are specialised trust and work under very special rules. They are not at all affected by the Budget changes relating to trusts
