Proposals for trusts affects tax planning now

If you are planning to set up a trust, add funds to an existing trust or have a will that establishes a trust on death, then HM Revenue & Customs’ (HMRC) proposed changes to the inheritance tax (IHT) treatment of trusts mean you might have to rethink your planning.

The changes affect the way that IHT applies to most trusts (also called settlements) with some limited exceptions. Trust assets are subject to an IHT charge every 10 years, and there can also be an exit charge when capital is paid out to the trust beneficiaries. The calculation of these charges is quite complicated, and the changes are partly designed to simplify this.

HMRC is also concerned about the ability of individuals to set up multiple trusts during their lifetime, with each trust then benefiting from a nil-rate band of £325,000. Establishing a new trust every seven years is a straightforward way of achieving this.  If the process is started at an early age, such a strategy of making a gift into a trust of £325,000 every seven years could remove a substantial amount of assets from a person’s estate.

HMRC’s proposal is that each individual will have only one nil-rate band for trusts or settlements during their lifetime. This will be entirely separate from their personal nil-rate band, although it will be the same £325,000 amount. The settlor will be responsible for making an election that sets out how they wish to allocate their settlement nil-rate band between the trusts that they have set up. For trusts created on death, the election will be made by the personal representatives.

The new rules will apply after 6 April 2015, but they will only affect new trusts that have been created after 6 June 2014 – the publication date of HMRC’s consultation document about the taxation of trusts. The rules will also apply where property or funds are added to an existing trust. Existing trusts made by 6 June 2014 will retain the nil-rate band available to them under the previous rules, but they will benefit from the new simplified way in which charges are calculated.

The changes are not definite – just a consultation, as things stand – but the proposals seem very likely to be included in next year’s Finance Act.

Please get in touch with us if you need advice.