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Interested Parties

Having set the scene on trust reform, let us look at those proposals that are likely to have greatest impact on the everyday life of financial advisers.

Solutions involving trusts will be applicable to estate planning, business insurance, family protection, pensions and investment planning. Existing trustees may also be targeted as a potential source of business.

The consultation on trust reform will be highly relevant to all these business areas and advisers need to be aware of the main areas of potential change.

The Government&#39s focus is on the income tax and capital gains tax treatment of trusts and there are no proposals to change the treatment of trusts with regard to inheritance tax.

The consultation will probably be more relevant for trusts of collective investments than trusts of life policies, which have their own provisions for taxing chargeable event gains.

The tax rate for trusts is increasing from 34 to 40 per cent from April 6. The dividend tax rate will rise from 25 to 32.5 per cent. This change is outside the consultation process. It will affect the rate of tax that UK trustees pay on chargeable event gains where they are assessed on them rather than the creator of the trust.

There is a clear agenda to stop trusts being used for tax avoidance. The discussion document proposes categorising trusts into three types for income tax and CGT purposes:




The definition of a settlor-interested trust looks likely to be given a much wider application than is evident under current anti-avoidance rules. It has been suggested that the offshore trust definition may be used. This would catch any trust under which the settlor, settlor&#39s spouse, settlor&#39s children or grandchildren could benefit.

There is a desire to harmonise definitions and tax treatment and remove anomalies. One anomaly is the difference in tax treatment of income and capital gains under parental bare trusts. Currently, all gains on trust assets under bare trusts, regardless of the settlor, are assessed on the beneficiary while all income over £100 gross in a tax year per minor unmarried beneficiary is assessed on the parental settlor if it is derived from capital provided by the parental settlor.

Interestingly, the effective settlor-interested definition for the taxation of chargeable event gains under life policies extends to any trust, irrespective of the beneficiary. Under the current rules, with one exception, all chargeable event gains are assessed on the trust creator if he was alive and UK resident in the tax year in question. For these purposes, the creator has a special meaning embracing anybody who has made a payment to the trust. The exception is for a bare trust under which chargeable event gains are assessed on the beneficiary if he has reached 18.

The penalty for general settlor-interested trusts is that all gains and income are assessed on the settlor. This is proposed to continue but could apply to a wider spectrum of trusts. The concern is that this would catch most trusts. How many settlors would establish a trust under which not only would the settlor and settlor&#39s spouse not be able to benefit but also the settlor&#39s children and grandchildren? Not many, I suggest.

For non-settlor-interested discretionary or accumulation trusts, a basic-rate band might be available although it may be quite low – £500 is mentioned. It is also proposed that under a non-settlor-interested non-bare (general) trust, where income is paid during the year, it will be assessed on the beneficiary who gets it rather than the trustees. Under a settlor-interested trust, if someone other than the settlor receives income, this will not change its taxation. The amount is treated as a capital gift by the settlor.

It must be noted that merely having an arrangement in force does not necessarily give absolute protection from future legislative change.

Where the main reason for a trust is IHT/estate planning, the reasons why should be unaffected. But the – albeit subsidiary – income tax and CGT implications of what is suggested must be taken into account.

The gifts with reservation of benefit rules are less widely drawn than those applicable for CGT and income tax in that it is only necessary to exclude the settlor from all benefit to avoid them. If some of what has been raised in the discussion documents is enacted, the margin of divergence, with wider settlor-interested definitions for income tax and CGT, looks set to increase. This is odd as it would be in conflict with the expressed intention of establishing common definitions.

The likelihood of higher rates of income tax and CGT for discretionary and accumulation and maintenance trusts means the use of single-premium bonds as a trustee investment will appeal. Such bonds are non-income-producing and not subject to CGT in the hands of the owner so many of the new anti-avoidance rules are not likely to be relevant.

Despite life policy trusts not being likely to be subject to the proposed settlor-interested rules, single-premium bonds in trust are, by virtue of the chargeable event provisions, already subject to the widest possible settlor-interested tax provisions in that all gains are assessed on the settlor (with the bare trust exception) if, in the year the chargeable event gain arises, the settlor is alive and UK resident. This is the only test. If the settlor is non-UK resident or deceased, the trustees would be liable on the gain at the trustee rate – 40 per cent after April 5 – with a 20 per cent tax credit for a UK single-premium bond.


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