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In at the deep end

Apart from advising on suitable investments for existing trusts (a potentially important market for those looking to collaborate with solicitors, especially in light of the 25 per cent increase in the rate of tax to be suffered on trust income from April 6 next year), for many years, the only “retail” trusts that most financial advisers had to deal with in connection with “new” investments were those connected with insurance policies – first protection and then investment.

Inheritance tax planning will probably have been the main determinant of using a trust and the type of trust being used. Where the purpose of the exercise was to provide for the payment of inheritance tax on the death of the client being planned for, then the product held subject to the trust will have been an appropriate policy of life insurance. For married couples (and registered civil partners) the policy will typically have been a whole-of-life last-survivor (second-death) policy and the trust a flexible or discretionary trust.

Significant IHT planning activity has taken place over the last few years, though, in connection with the reduction of the liability through the use of lump sum investments in connection with appropriate trusts.

The chosen (almost “default” ) investment to sit inside the trust will usually have been a UK or offshore single-premium bond.

Income tax and capital gains tax on the income and realised capital gains produced by the investments held in trusts will have been relevant where the underlying investment product produced an investment return but when the underlying investment was a single-premium bond there would be no such tax considerations until a chargeable event occurred – typically, on final encashment or on a part-encashment or withdrawal in excess of the cumulative 5 per cent allowances.

This tax simplicity is often, and understandably, quoted as one of the main reasons for an investment bond being chosen as the underlying investment for the trust and the requirement for knowledge and consideration of the general income tax and capital gains tax rules for trusts is, as a result, quite low.

As mentioned above, if the adviser, usually in collaboration with a solicitor or accountant, was advising in connection with an existing trust on investment, then things would be different. For this type of business, a working knowledge of how income tax and capital gains tax work for trusts would be necessary in order to determine the tax appropriateness of various investments.

With the advent of investment platforms and the gradual extension of retail trusts (especially available through these platforms) to cover more than just insurance products, having an awareness of how tax operates with investments that produce capital gains and income will be increasingly important.

This will mean that the knowledge base of many advisers in relation to trust taxation will need to expand.

The majority of trusts put in place to facilitate IHT and estate planning since March 2006 will be discretionary. There is nothing to suggest that, from an IHT planning standpoint, this trend is likely to change. Most people would value the ability, through the trustees or settlor as appointor, to change the beneficiaries if the circumstances dictate.

A bare or absolute trust is seen by as being too rigid a means of planning by most seeking to do something about IHT with a relatively serious sum of money.

Despite the undoubted merits of investment bonds as trustee investments in the right circumstances, the introduction of the single 18 per cent CGT rate for individuals and trustees has caused increasing numbers (advisers, platforms and fund managers alike) to consider the appropriateness of collectives as investments to underpin some of the (now) standard IHT planning trusts. And with this comes the need to be more informed about income tax and capital gains tax on trustee investments.

Next year’s proposed tax changes for trust income need to be part of this consideration. However, for advisers looking to do business in this market and especially where business merit is seen in collab- oration with solicitors and accountants, this deeper tax knowledge, together with an understanding of the legal fundamentals underpinning trustee investment, will stand them in very good stead.

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