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HMRC changes taxation of bare trusts

HM Revenue and Customs have made changes to the taxation of chargeable event gains arising under a life assurance policy held subject to a bare trust.

Chargeable event gains will now be taxed as the income of the beneficiary, irrespective of the beneficiary’s age in all cases except those where the parental settlement provisions for general income tax purposes will apply.

These provisions apply from tax year 2007/08 onwards where the beneficiary is a minor who is unmarried and not in a civil partnership; the settlor is a parent of the beneficiary and the chargeable event gains including all other income arising from gifts made by the same parent exceed £100 in any tax year.

Previously, where the beneficiary was an adult, chargeable event gains were taxed on the adult beneficiary as the beneficiary could not be legally prevented from accessing the funds. Where the beneficiary was a minor, chargeable event gains were taxed on the settlor, if alive and UK resident in that tax year or on the trustees if otherwise.

Under the new rules, chargeable event gains will be treated as income, the £100 parental settlor rule will apply and all income that arises during the settlor’s lifetime will be taxed on the parental settlor.

According to Technical Connections director John Wooley, the changes raise questions over what happens if the policy is encashed and a chargeable event gain arises after the death of a parental settlor in the case where the beneficiary is a minor child of the settlor. According to his interpretation of the changes, if the chargeable event gain arises at any time after the death of the settlor, even in the same tax year, then those gains will be taxed on the beneficiary.

Wooley questions who owns the rights in the policy or contract in question under the new changes. He says: “The legislation specifies that gains should be assessed on the person(s) who owns the rights in the policy or contract in question. Can it be said that a minor beneficiary under a bare trust that holds a life policy owns the rights in that life policy? Whatever view is taken, given that HM Revenue and Customs have stated what their “new” view is, the safer route is to abide by that.”

He warns that trustees who have encashed policies between April 6 2007 and 14 November 2008 may be disadvantaged because different tax implications may now apply from those anticipated at the time of encashment.

He also notes that the changes only affect chargeable event gains arising on policies held on bare trusts for minor beneficiaries.

However, where the settlor of the trust is not the beneficiary’s parent, for example a grandparent or other relative, Wooley says the change will provide scope for minor beneficiaries to use their income tax personal allowance to absorb chargeable event gains that arise when encashments are made. He says: “This change may therefore create an opportunity for effective school fees planning by a grandparent for a grandchild based on an investment bond and bare trust.”


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