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Rysaffe and sound

Looking at situations where a Rysaffe strategy might be of value in estate planning

Last week, I was looking at loan trusts and how, even with a nil value for the settlement on commencement (the entire value of the settled property being constituted by the funds loaned which, net of the current outstanding loan, leaves a nil value), there could be a value in excess of the nil-rate band available to the settlement at the time the first periodic charge arises.

I then looked at why a Rysaffe strategy based on establishing separate trusts on different days can work well in connection with exempt or no-value transfers and not so well for transfers of substance, so to speak.

Multiple loan trusts (with no transfer taking place on the establishment of the trust) and multiple trusts of protection plans (with usually exempt premiums) are the most obvious examples of Rysaffe-compatible strategies. The latter may be especially important for high-premium protection plans held in trust in light of the recent confirmation to us from HMRC Capital Taxes that it is its view that the “not less than premiums paid” rule in s167 IHTA 1984 is not disapplied by s167(2) and should thus be applied when determining the amount of a periodic or exit charge under the discretionary trust regime. I will look at this in more detail in later articles.

Turning back to what is not Rysaffe-compatible, I believe it is worth explaining why splitting a £2m loan trust into 10 separate trusts or more can make tax sense whereas by splitting a £2m gift to trust of, say, a single-premium bond would not, even where the settlor has a completely unused nil-rate band. This rationale would hold good for any settlement into which a gift was made although for a discounted gift trust one would only be considering the value of the settled property net of the retained settlor rights.

Bare trusts are not settled property and could be a valid alternative structure for those wishing to avoid the potential rigours of the discretionary trust regime and who are happy to make a non-chargeable outright gift. However, where the transfer into trust was of significant value (not by way of loan) or where the nil rate band has already been used by the settlor, then Rysaffe is of far less value.

For example, say that, instead of a loan trust, a transferor is investing £2m net of inheritance tax, which he pays into a single-premium investment bond which he is transferring into trust.

Clearly, the transfer of a £2m lump sum into a single trust will trigger a chargeable transfer which will need to be notified to HMRC. Assuming that the current £285,000 nil-rate band is unused and the settlor pays the tax (so the transfer needs to be grossed up), a liability of £428,750 will arise (20 per cent on £2,143,750, which is £2m grossed up to £2,428,750 less the £285,000 nil-rate band), annual exemptions having been ignored. The 10-yearly charge will be based on the value of the settled property at the time. If there is 5 per cent compound growth, after any fund tax, the fund will be worth about £3,257,000. If the nil-rate band is £300,000, then the liability (all other facts being the same) will be £177,420 (6 per cent of £2,957,000).

If, instead, the settlor sets up 10 separate settlements on different days so they are unrelated under Rysaffe, the total IHT due on the initial transfers will be the same. The first transfer will be taxed at nil as it will be under the nil-rate band, the second will be partly within the nil-rate band and the rest over the nil-rate band. The chargeable parts of transfers two to 10 will all be taxed at 20 per cent.

At the 10-year anniversary, the table above shows the amounts of tax that will be due on each of the 10 trusts assuming that:
  • The transferor made no chargeable lifetime transfers in the seven years leading up to the establishment of the trust fund but all the annual exemptions have been used.
  • The nil-rate band is £300,000 in 10 years time.
  • The overall value of the trust fund in 10 years time is £3,257,000, that is, £325,700 in each settlement.

The total tax is £173,993 at the 10-year anniversary – about £3,400 less than if a single trust was established. The reason for this is that the assumed cumulative total of the assumed transferor in trust two is the amount of the transfer made into trust one at its then value of £242,875, leaving £57,125 of nil-rate band available to trust two (the 10-year nil-rate band of £300,000 less the amount of £242,875 already used). When we get to trust three, the cumulative total of transfers made to trusts one and two exceeds the current 10-year value of the nil-rate band for the assumed transferor, so the whole of the value of the settled property is subject to IHT at 6 per cent. This will also be the case for trusts four to10.

It can be concluded that a Rysaffe strategy can be of value if the initial value of the transfer into each trust can be minimised or, as in the case of a loan trust, non-existent. Another key factor is that a Rysaffe settlor has not made substantial chargeable lifetime transfers in the seven years preceding commencement of the first trust.

This strategy works effectively under current law but there can be no certainty that it will continue to do so.

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