News | Financial Services

Budget Changes Affecting the IHT Treatment of Trusts

Tuesday 28th March 2006

Totally unexpected changes were announced to the IHT treatment of existing and new trusts.
  • With effect from budget day lifetime gifts to accumulation and maintenance trusts and life interest trusts will be chargeable in the same way as transfers to discretionary trusts. Before 22 March 2006 gifts to such trusts were completely exempt from IHT if the person making the gift survived for 7 years. Lifetime gifts to trusts for disabled persons will receive favourable treatment.
  • At this stage it must be sensible to assume that a transfer to a trust where the transferor has an immediate life interest is chargeable. Pre budget day the transfer was IHT neutral but this may not remain the case.
AS A RESULT WE RECOMMEND THAT NO ADDITIONS TO NEW OR EXISTING TRUSTS ARE MADE BEFORE THE NEW LEGISLATION IS PUBLISHED
  • Certain accumulation and maintenance trusts and certain life interest trusts made on a person's death will fall outside the discretionary trust regime.
  • Most new accumulation and maintenance trusts and most life interest trusts will be subject to the same IHT regime that currently applies to discretionary trusts - there will be periodic IHT charges every 10 years and charges when property is distributed to beneficiaries. The current rate of IHT payable on these occasions varies up to 6% depending upon the time that property has been in the trust and, in the case of exit charges, on the time since the last 10 year charge. A trust will be new for these purposes if property is added to it on or after 22 March 2006 - even if the Will which provided for the gift was made before that date.
AS A RESULT WE RECOMMEND THAT ALL WILLS THAT PROVIDE FOR PROPERTY TO PASS TO TRUSTS SHOULD BE REVIEWED
  • Existing accumulation and maintenance trusts can avoid the periodic and exit charges if they are restructured prior to 6 April 2008. To be effective the reconstruction must result in the beneficiaries becoming entitled to the trust property by the age of 18. This is unlikely to be desirable if the trust is valuable since it will hand control of the assets to very young adults. If the trust property qualifies for, e.g. business property relief, continuation may be the preferable alternative.
  • Existing life interest trusts will, if they remain undisturbed, continue to benefit from existing IHT treatment. If they continue until the life tenant dies there will be a charge on his death as if the assets formed part of his estate. It is possible that there will be a charge even if the person's spouse takes a successive life interest but not if he or she takes an absolute interest. If the trust continues after his death it will be subject to the same IHT charges as if it had been a discretionary trust - even if the terms actually provide for life interest or accumulation and maintenance trusts. This means there will be periodic and exit charges.
  • If an existing life interest comes to an end during the lifetime of the life tenant because the property is distributed from the trust the existing IHT treatment will apply. If the capital is paid to the life tenant it is IHT neutral and if it is paid to someone else it is capable of being a potentially exempt transfer by the life tenant and exempt if he survives for 7 years.
  • If a life interest existing on budget day is terminated before 6 April 2008 and a successive life interest comes into effect at the same time the second life interest is treated as if it existed on budget day and will continue outside the discretionary trust regime as described. However the person who actually had the life interest on budget day is treated as making a gift when his life interest comes to an end and the assets will continue to form part of his estate unless he is entirely excluded from the assets after his life interest comes to an end. Whilst not absolutely clear, it seems to be the case that if the original life interest ends before 6 April 2008 in favour of a second life tenant, the original termination is a PET and so there is no IHT charge on the death of the original life tenant if he survives for 7 years (and is entirely excluded from benefit) after his interest comes to an end.
  • Although these changes do not appear to affect directly the excluded property status of non-UK assets held in trusts established by non-UK domiciliaries, there still may be implications for such trusts, for example, if and when the settlor subsequently becomes domiciled or deemed domiciled.
  • There has been no prior consultation on these changes and the detail in the press releases from HMRC is scant and suggests that the changes have not been properly considered. Until the Finance Bill is published (which is expected shortly) it will be difficult to comment constructively and even then due to the radical and unexpected nature of the announcement extensive and vehement lobbying is expected as the Finance Bill passes through Parliament. It is therefore very much hoped that the proposed changes are not enacted or at least radically changed before enactment. The Finance Bill 2006 is expected to receive Royal Assent by 25 July 2006 at the latest.
ALL EXISTING TRUSTS MUST BE REVIEWED. THE TRANSITIONAL RELIEF RUNS UNTIL 5 APRIL 2008 BUT A CHARGE MIGHT STILL ARISE UNEXPECTEDLY BEFORE THAT DATE IF, FOR EXAMPLE, A TRUST CONTINUES AFTER A LIFE TENANT'S DEATH BEFORE THAT DATE. IT IS BY NO MEANS CLEAR THAT THE SPOUSE EXEMPTION WOULD APPLY IN THOSE CIRCUMSTANCES ALTHOUGH THE CHARITY EXEMPTION IS SAID TO BE AVAILABLE.

If you have any comments on the bulletin, or would like to receive further details on the subject matter, please send an email to sjbnetworks@sjberwin.com or call your usual point of contact at SJ Berwin.


Notes:
  • This bulletin is not intended to offer professional advice and you should not act upon the matters referred to within it without taking specific advice.
  • SJ Berwin LLP is a limited liability partnership registered in England no OC313176. It is regulated by the Law Society of England and Wales. A list of the members of SJ Berwin LLP is open to inspection at 10 Queen Street Place, London EC4R 1BE, its principal place of business and registered office. Any reference to a partner in relation to SJ Berwin LLP is to a member of SJ Berwin LLP.
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