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Tony Wickenden: When it is relevant to pay IHT

Simplification of IHT charges is long overdue, but the Government proposals need rethinking


Last week I looked at the background to the latest consultation document on the taxation of relevant property. I shall start this week with a quick recap of what relevant property is. 

In this series of articles I have used the term ‘trust’ because it is more widely recognisable than the term ‘settlement’, except in relation to ‘related settlements’. Subject to certain exceptions, most flexible-type trusts (discretionary or flexible interest in possession trusts with a power of appointment) created on or after 22 March 2006 are known as ‘relevant property trusts’. Inheritance tax is payable when property is transferred into a relevant property trust as well as when the relevant property trust reaches a 10-year anniversary.

Further IHT charges, known as exit charges, can also arise when property is transferred out of the trust in the interim period. 

In broad terms, IHT is payable only at the outset (that is, on the transfer of property to a relevant property trust) if the amount transferred exceeds the settlor’s available nil-rate band at the time of the transfer. For a periodic charge to arise on a 10-year anniversary of the creation of the trust, the value of the trust fund at that time needs to exceed the nil-rate band available to the trustees.

As the exit charges are based on a proportion of the effective rate of tax that applied either at the outset (based on the value of the settled property immediately after the trust was created for exit charges in the first 10 years) or at the last 10-year anniversary (for exit charges after the first 10-year anniversary), it follows that an exit charge will usually arise only where there has been a tax charge at the relevant earlier point.

A number of factors should be taken into account when calculating relevant property trust charges, including:

  • The chargeable transfers made by the settlor within the seven years before the date of creation of the trust (which will affect the nil-rate band available to the trust).
  • The value of the trust property immediately after the trust commenced.
  • The value of any property added to the trust.
  • The length of time for which each item of trust property has been comprised in the trust at the date of the charge (if less than 10 years).
  • The value of property that has left the trust since the last 10-year charge.
  • The prevailing rates of IHT at the date of the charge.
  • The value of the property in the trust at the date of the charge. 
  • The amount of any reliefs available, such as agricultural or business property relief.

In some cases, it may be necessary to take account of the historical value of property in related settlements – settlements made on the same day as the settlement subject to the IHT charge – as well as the value of any other property in the settlement that is not chargeable to IHT.

For the layman, the calculation process is both time-consuming and difficult and, in many cases, the professional costs that are often incurred in determining the charge to tax are disproportionate to the amount of IHT due. 

To address this, in July 2012 the Government published a consultation document with proposals for a simplified regime. These were expanded on in a follow-up document in May 2013.

The essence of the original proposals was that simplification should be achieved by:

  • Ignoring the settlor’s previous seven-year cumulative total of lifetime chargeable transfers when determining the available nil-rate band for the purposes of calculating the hypothetical transfer on exit charges and 10-year anniversary charges.l
  • Ignoring non-relevant property for the purposes of the calculation of periodic and exit charges.l
  • Splitting the nil-rate band equally across the number of relevant property trusts, which the settlor made or which were in existence at any time during the previous 10 years from the time of the tax charge in question (regardless of whether they held property of any value).l
  • Applying a simple rate of 6 per cent to the deemed chargeable transfer that exceeds the nil-rate band for the purposes of periodic and exit charges, rather than requiring lengthy calculations of an effective rate.

The proposal was for the new rules to apply to all trusts from the date when the new legislation was implemented. This would have included trusts created both before and after the effective date.

While simplification was generally welcome, representative bodies were united in expressing concerns in a number of key areas:

  • Information gathering – splitting the nil-rate band between the trusts in the manner originally proposed would increase and complicate trustees’ administration and the need for historical records because trustees would have to keep abreast of all relevant occurrences (such as new trusts created, trusts wound up or distributions made) in every separate 10-year period for every trust.
  • Existing trusts – the new rules would mean charges would be imposed retrospectively on (formerly unreportable or non-chargeable) arrangements put in place taking account of HMRC rules and settled legal principles. This was felt to be unfair.
  • Division of the nil-rate band – simple division of the nil-rate band would mean that a proportion of it would be wasted on small trusts (such as pilot trusts or trusts of protection policies under which there would be no likelihood of  a charge arising) at the expense of  a higher charge on larger trusts.
  • The removal of the ability for the nil-rate band to be used again in relation to trust tax charges every seven years.

I will look at the Government’s response to these initial representations next week.

Tony Wickenden is joint managing director of Technical Connection

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There are 4 comments at the moment, we would love to hear your opinion too.

  1. Would love to see a government have the courage to just do away with trusts completely. Now that would simply things.

  2. Why would anybody want to do away with trusts? The article is discussing the simplification of the taxation of trusts.

    I’d really be interested in the reasons why anybody would be for the abolishment of the use of trusts. Effectively discounting centuries of legal evolution that has lead to a sophisticated division of legal and beneficial ownership.

  3. @BFG – I think you have answered your own question ? “Sophisticated division of legal and beneficial ownership” how often is this little more than a way for the “rich” to ensure that the money stays in the family, that it is gift with reservation in all but name. A simple idea abused by the “sophisticated” to avoid paying the taxes that I believe ought to be paid. Perhaps doing away with trusts completely would be going too far – so give “it” away and have absolutely no further control or benefit might be a reasonable compromise ?

  4. In my opinion trusts are more useful and relevant to today’s pressurised society than in any other time in history. Since the Finance Act 2006, and from my understanding, the use of trusts for high level tax planning has been minimised save for those who start very early.

    Speaking from experience, no level of maturity can prepare someone for a relatively large gift. Even small gifts of a few thousand pounds can have a devastating effect where there is no control in place. This doesn’t have to be via gifts on death… Why shouldn’t an individual be able commit a sum to another for their benefit but still retain control over it?

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