Powers of Advancement and Appointment
It is helpful to have the flexibility within the trusts of a settlement. For example, an agreement could be reached between a beneficiary and the life tenant to split up the assets between themselves. Someone who is a beneficiary with a deferred interest might ask trustees to make an advancement in their favour. If you wish to do any of these we would need to advise you on the tax implication.
It is common for an interest for life to be given to one person, for example to give an income to the wife while on her death the capital will be treated in a specified way.
The trustees have power to advance capital to the child who will eventually benefit but usually only with the consent of the person with the life interest.
This can be done by having an express power in the trust. Alternatively this may be possible and statute with the consent of the life tenant. It is also possible for the life tenant and the remainderman to agree to split the trust fund.
Partitioning the trust fund
Even if the trust does not contain a power to allow capital to be advanced to someone entitled in advance to a beneficiary, it is possible to advance capital. This is where beneficiaries who are of full age and capacity and together are entitled to the full beneficial interest, to bring the Trust to an end and direct the trustees to transfer the property.
Agreement will have to be reached about the value of the various interests. The assets will need to be valued and then proportionally distributed.
Providing capital to the beneficiaries:-
Inheritance tax implications.
Your property is transferred to the beneficiary from someone who had a lifetime interest.
For example if the property was passed to your wife for life and then it was decided to transfer it to the children while she was still alive, then there is a particular tax implication. It will be treated as a Potentially Exempt Transfer (PET) for inheritance tax. This means that there will be no inheritance tax if, as in our example, that is common for wife who lives for 7 years. If the wife dies before 7 years it could be that there will be some relief, such as (tapering relief) but there would be inheritance tax payable. There are certain cases where this will not happen such as if the property is held by the Trustees for a spouse or civil partner of the life tenant absolutely in which case it will be exempt from tax.
The 3 ways tax may become payable if capital is provided to the beneficiaries:-
- Where the Trustees advance money to the life tenant (e.g. benefiting from the property for life to be passed to the children on her death). There is no inheritance tax payable at that time.
- If capital is advanced to those who inherit after the life tenant has died (e.g. the children where the wife has a life interest and they inherit the property or they receive the property on her death):- in this case there will be a Potentially Exempt Transfer (PET) but only payable if the wife dies within 7 years.
- Sometimes there will be a partition of the trust fund:- in this case also there will be a Potentially Exempt Transfer (PET).
Capital Gains Tax
Where capital is advanced to the beneficiaries there will be a deemed disposal for CGT purposes if capital is advanced to the beneficiaries. This would be calculated on the value when the assets were required compared to the current value. The taxation will be on the gain at 20% or 28% if it is residential property. 50% of the annual exemption may be applied by the trustees. In some cases other reliefs may be available such as hold over relief if the Trustees and beneficiaries jointly agree this.
Where there are losses in value relief may also be available against other gain in the same year. It is possible also for losses to be transferred to the beneficiary if they are not fully “used” by the trustees.
We can advise you on the necessary documentation for transferring assets to the beneficiaries. This is known as a “Deed of Partition”.
This will cover the details of the property to be transferred with reference to the different parties and the trustees as well as how the tax will be dealt with.
Trustees exercising powers where the beneficiaries do not have an interest in possession
This is the case where beneficiaries do not, for example, have a right to use the property. The property might be held on trust on a discretionary basis or where they receive the benefit when certain contingency arises such as reaching a particular age.
The usual approach is to give the trustees wide powers to advance capital to those benefiting from the trust (the beneficiaries).
There will be tax implications of course. The first one to consider will be inheritance tax. Inheritance tax (IHT) is charged on the value of the relevant property and half the rate applicable on death (20%). There is a periodic charge on each 10 year anniversary and a distribution charge on 10 years from the creation of the trust.
We can advise you on the calculation.
The broad approach to calculating the 10 year charge is…. The approach briefly is to ascertain the current value of the property. The portion of the unused nil rate band would be then considered and tax applied. An example would be where £100,000 was placed in trust, 10 years later its value is £160,000. Any nil rate band remaining would be knocked off say £100,000 and then tax would be applied to the £60,000. The rate applied is 20% so the tax charged would be £12,000.
Special rules apply if distributions are made before the 10 year anniversary. We can advise you on these complex rules.
- The value of the property is calculated (value of the property when the trust was created, the additional value of the property since the creation of the trust and certain other points included as anti-avoidance provisions which we do not need to go into here).
- The tax is then worked out at 20% or half the death rate.
- Apply the unused nil rate band. If the property value does not exceed the nil rate the unused nil rate band there will be no charge. However, the charge would be applied if the nil rate band has been used up or partially used up.
Capital Gains Tax where capital is advanced to the beneficiaries
In this case there will be a deemed disposal.
There are reliefs and exemptions. There is a nil rate band, which is half the full rate band.
Certain other reliefs will be applicable with certain types of property such as hold over relief.
It should be noted that special rules will also apply the powers are exercised by trustees for bereaved minors and bereaved young people.
What are the possible tax implications where there is a resettlement?
This is a case where the trustees exercise their discretion to set up a new trust. This can arise because on Trust Deeds are often quite flexible. Care needs to be taken in this case to avoid a deemed disposal for capital gains tax purposes. We can advise on the risks and on the guidance from HMRC such as in their statement of practice 7/84.