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Taking account of trust returns

Now that the Finance Act has been published, advisers can take the time to understand the changes to the inheritance tax treatment of trusts, knowing there are unlikely to be any more amendments, at least in the short term.

They must also realise that one of the mainstays of their inheritance tax planning business, the power of appointment interest in possession trust, has undergone a major personality change and, for all intents and purposes, is now a discretionary trust.

The Finance Act has also increased the administrative burden of setting up and administering these trusts. There is now a duty to report the setting up of “relevant property trusts” to HM Revenue and Customs if they meet certain conditions.

In addition, there are further requirements to send an account to HMRC at the 10th anniversary and when property exits the trust.

The term, relevant property trust, existed before the recent changes but it is new to many IFAs who previously dealt mainly with flexible trusts.

Trusts now covered by this term include:

l Trusts under which there is no individual with a right to an interest in possession (discretionary trusts).

l Trusts under which individuals have an interest in possession and the trust is dated March 22, 2006 or later.

l Accumulation and maintenance trusts which are dated March 22, 2006 or later.

There are penalties for not reporting transfers, which are covered later, so it is essential that you are up to speed with what is required.

For the purposes of this article, it is assumed that the relevant property is wholly an investment bond or other life insurance policy of some type, as these have been and are likely to remain the main investment vehicles for this type of financial planning.

There are three specific occasions when an inheritance tax return may be required. These are:

l When the settlement into trust takes place (a chargeable lifetime transfer).

l When property ceases to be held by the trust (the proportionate charge or exit charge).

l Every 10-yearly anniversary of the trust commencement date (the principal charge).

So even though no IHT is due, a return is required when a settlement takes place into trust. An account is required by HMRC if a lifetime transfer is chargeable to inheritance tax at the time it is made not withstanding that the rate may be 0 per cent. An account is not required if it meets the following conditions:

l The amount of the gift into trust, together with any other chargeable transfers in the same tax year, does not exceed 10,000.

l The amount of the gift into trust, together with any other chargeable transfers made by the individual in the 10-year period ending with the gift, does not exceed 40,000.

l A chargeable transfer is a gift, or other transfer of value, which is chargeable to inheritance tax at the time it is made.

For the purposes of these limits, any exemptions are ignored. For example, even though a gift of 12,000 may be reduced by the annual exemption of 3,000 an account is still required.

The next occasion when a return is required may be when property ceases to be held by the trust.

An account is required when assets in a relevant property trust cease to be trust property, such as when they are distributed by the trustees to individuals entitled to such payments under the trust provisions.

Perhaps the event that will cause most concern is the trust’s 10-yearly anniversary.

An account must be submitted every 10 years, even though the value of the trust fund may not be sufficient to generate an inheritance tax liability.

For the purposes of this article, it has been assumed that the relevant property is an investment bond or other life insurance policy of some type as these have been and are likely to remain the main investment vehicles for this type of financial planning. Meeting deadlines may well be an area that catches out a number of people, particularly when they only arise every 10 years.

The responsibility to submit accounts is on the trustees but they may be relying on their IFAs to remind them and hold their hands.

With the changes that can occur over a 10-year period, it is easy to foresee similar numbers to those who do not meet their self-assessment tax dates.

What is the deadline for submitting an account? HMRC says: “You should tell us about it within one year of making the gift” but any inheritance tax arising is payable on the following dates:

l If the gift was made between April 6 and September 30, inheritance tax is due on April 30 in the following year. So if the gift is made on April 10 ,2006, the tax is due by April 30, 2007.

l If the gift was made between October 1 and April 5, inheritance tax is due six months after the end of the month in which the gift was made. So if the gift is made on the November 12, 2006, the tax is due by May 31, 2007.

It would seem logical, therefore, to submit the account before the tax deadline rather than the end of the one year’s grace, if any inheritance tax is due.

As well as meeting the required deadlines, the correct form must be used for the specific event.

All of these events have to be reported on an IHT100 form. This is accompanied by an event form (see below) plus any supplementary pages. In the context of life policies, supplementary page D34 (life assurance and annuities) will be required.

Event form requiredl Settlement:IHT100a – Gifts and other transfers of valuel Exit of assets: IHT100c – Assets in a discretionary trust ceasing to be relevant property (proportionate charge)

l 10th anniversary: IHT100d – Trust 10 year anniversary (principal charge)

Finally, there are the penalties. Individuals with a responsibility for delivering an inheritance tax account to HMRC have a legal duty to deliver an account within the time allowed. Failure to comply may mean an initial penalty of up to 100 plus a maximum penalty of 60 for each day until the account is delivered.

Failure to deliver the correct information and documents can result in further penalties being imposed: 100 per cent of the additional tax liability plus 1,500 for negligence and 3,000 for fraud.

For many IFAs, trustees and clients this burden of administration is alien and the responsibilities must be laid out as to who will do what clearly at outset. If the IFA wishes to provide this service to their clients they will need to ensure they have appropriate records in place and there is a process for keeping them up to date. Ten years can be a long time in financial services.

All forms and notes relating to relevant property trusts can be found on the HMRC web site at www.hmrc. gov.uk/cto/forms3.htm.

Once completed the relevant forms should be sent to: HM Revenue & Customs, Capital Taxes, Ferrers House, PO Box 38, Castle Meadow Road, Nottingham, NG2 1BB.

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