Thursday, June 29, 2006



A lot of people are describing the IHT changes to the rules on trusts in the budget as the death knell of the use of trusts in tax planning. The income tax and capital gains tax rules already tax the settlor on both income within the trust and capital gains of the trust in place of the trustees, where the settlor or his spouse have an interest in the trust. However to misquote Mark Twain, rumours of the death of trusts are, in my view, greatly exaggerated.

What has the Chancellor done (or, rather, proposed)?
(a) He has simplified IHT by having a single set of rules for trusts instead of having two completely different rules with some trusts having some assets within one regime and some within the other. The two regimes are different; not one is better than the other. Under the discretionary trust regime (which now applies to almost all trusts) there is a tax charge of up to 20% on creating the trust, a tax charge of up to 6% of the value of the assets in the trust on each tenth anniversary, and a tax charge of up to 6% when assets leave the trust. There is no IHT charge on the death of the principal beneficiary. In addition if assets ripe with capital gains are put into the trust the CGT can be deferred until the trustees sell the asset concerned (and can be deferred again if they distribute it to a beneficiary). Under the interest in possession regime there was no IHT charge on creating the trust but a charge at, normally, 40% when the beneficiary died. CGT had to be paid by the settlor on assets put into the trust.

I stress that the charges are “up to”, because the £285,000 nil rate band can have a significant impact on the effective tax rate; i.e.

Tax on settling % 10 yearly charge % Tax on death under IIP regime %
£ 250,000 nil nil £100,000 40%
500,000 £43,000 8.6% £ 6450 1.29% 200,000 40%
1,000,000 143,000 14.3% 21,450 2.15% 400,000 40%
1,500,000 243,000 16.87% 36,450 2.43% 600,000 40%
2,000,000 342,000 17.15% 51,450 2.57% 800,000 40%

I have taken 40% on death as the individual normally has sufficient other assets to use up his nil rate band. The tax on the 10-yearly charge is actually 15% of the taxable amount (6% is 15% of 40%). On a distribution from a discretionary trust the tax is at the same rate as on the previous tenth anniversary but pro-rated for the part of the current 10-year period that the property was in the trust (e.g. a distribution of £1m at the end of year 18 would attract a rate of 11.44% - 14.3% x 8/10th). The 20% rate assumes that the seller survives for seven years.

(b) He has taken the value of an interest in possession out of the beneficiary’s estate, so that no tax at all is now payable on the beneficiary’s death, or on a gift by the beneficiary, of an interest in the trust (unless it remains within the pre 22 March 2006 IIP trust regime or is a trust for a bereaved minor or one with an immediate post death interest).

(c) He has left all interest in possession (and accumulation and maintenance) trusts set up before 22 March 2006, including trusts of insurance policies, within the old IIP regime, with the exception that if a new interest in possession arises after the death of the current life tenant the trust is brought within the new regime at that stage – but with no initial 20% charge as 40% IHT will have been paid on the death of the previous life tenant.

(d) He has created a new rule for trusts for bereaved minors, namely a trust created by a person’s will (or a statutory trust on intestacy) for the benefit of his child who is under 18 provided that the beneficiary becomes absolutely entitled to the assets and any accumulated income when he reaches 18. There is no IHT on such a trust when the assets pass to the child at 18 (or are paid to him or for his benefit under that age) or when the child dies – but a tax charge will arise on a payment to anyone else or on the trust ceasing to be solely for the benefit of the child. If the above conditions would have been met but the property vests at 25 (or earlier) rather than 18 an exit charge arises when the child reaches that age for the period the property is in the trust subsequent to his 18th birthday. If property is held on trusts established under the will of a deceased parent for a beneficiary under 25 (and which otherwise would have qualified as a trust for a bereaved minor) and the property was transferred to that trust on the termination during the holder’s lifetime of an interest in possession the transfer is a potentially exempt transfer.

(e) He has created a new type of trust, one with an “immediate post-death interest”. This is a will trust (or one arising on an intestacy) which grants an immediate interest in possession (to anyone, not necessarily a spouse or civil partner). Such a trust remains within the old IIP regime. It accordingly enables the spouse exemption to be preserved on death.

(f) He has amended the reservation of benefit rules so that where a person is entitled to an interest in possession in a post 22 March 2006 trust and that interest comes to an end during the individual’s life the individual is taken to have disposed of the property by a way of gift for the purpose of those rules. The effect seems to be that if the property comes out of the settlement to an individual no inheritance tax is payable (apart from the trust exit charge) provided that he survives for another seven years but if the property remains in the settlement the deemed gift will trigger a new 20% IHT charge.

What does this mean?
It does not mean the end of IHT planning using trusts. It means that trusts will in future in some cases be used differently.

What can still be done?
1. It no longer makes any difference for IHT purposes if a new trust is a discretionary trust, an accumulation and maintenance trust or an interest in possession trust. This decision can now be based solely on family considerations.

2. It is still worth putting business assets into a trust if they attract 100% BPR and are likely to be sold at some stage. There is no IHT on the initial transfer and when the assets are sold and replaced by non-business assets the only IHT is the future 10 yearly charges and exit charge.

3. Similarly it is still worth putting into trust assets worth less than £285,000, which are likely to increase in value. Again this avoids the entry charge and gets the assets out of the settlor’s estate subject only to the 10-yearly and exit charges.

4. When the value exceeds £285,000 it may be worth selling the asset to a trust at a £285,000 undervalue leaving the sale proceeds outstanding. The outstanding amount remains in the donor’s estate but the growth in value is in the trust and subject only to the 10 yearly and exit charges.

5. A nil rate band discretionary trust in a will still makes sense. So does an interest in possession trust, particularly one where the IIP is in favour of the deceased’s spouse or civil partner. Discretionary will trusts are probably no longer sensible unless there is no surviving spouse (so that the 40% IHT charge on death displaces the normal 20% trust creation charge).

6. The creation of a trust is still virtually a must for those who are non-UK domiciled and not yet deemed domiciled here. And remember that if a person is deemed domiciled here his infant children may well not be, as they have to themselves meet the 17 year test to become deemed domiciled. Of course a very young child probably does not have the legal capacity to create a settlement but a teenager is likely to be competent to do so.

7. Bare trusts can still be used where the beneficiary is under 18 and unmarried as the beneficiary is deemed to be beneficially entitled to the assets in the trust.

8. If the main concern that prevents a gift direct to the beneficiary is a fear that the beneficiary might squander the money, a gift subject to a condition, e.g. that management of the money is carried out by a specified third party and that the beneficiary will not call on the fund until he is 25 or 30 or whatever, is worth considering. However that would not protect the assets from creditors of the beneficiary.

Things to avoid
1. It no longer normally makes sense to create a trust of which the settlor is a beneficiary. This triggers the initial IHT charge but the property remains in the settlor’s estate under the reservation of benefit rules so it creates double taxation.

2. Similarly it will normally no longer make sense to create a lifetime trust of which the settlor’s spouse or civil partner is the main beneficiary, as a gift direct to the spouse avoids the trust creation charge of up to 20%.

3. Careful thought needs to be given to the use of a trust for CGT planning where a person is non UK domiciled but is deemed domiciled for IHT purposes: in such a case it has been sensible in the past to set up an offshore IIP trust for the settlor’s own benefit to obtain the CGT and income tax advantages of such a trust. This may no longer make sense if it will trigger an immediate IHT charge – although it might still be worth selling the assets to the trust rather than gifting them.

4. A similar issue arises where a person wants to let his principal private residence but wants to stop time apportionment eroding the exemption already achieved. In such cases putting the property into trust for oneself has achieved that objective in the past. Again a sale to a trust rather a gift may still be viable.

Robert W Maas

Friday, June 09, 2006



I was struck by a headline in Tuesday’s Times, “Call of the dogs, Mr Brown”. I learn from this that “whereas actors, singers, dancers and musicians have agents as a necessary business expense other entertainers, sportsmen and authors do not need them in the Revenue & Customs view. At lease that is what the author of the article, Libby Purves, thinks the Revenue view is. She goes on to claim that “if the Revenue attempts to make that case [that authors don’t need agents] it will make itself ridiculous”. Indeed apparently “such are the alarms and uncertainties of tax rulings and rumours that a whole tranche of thinkers – writers of science, history, philosophy or challenging fiction, freelance makers of documentaries, essayists, journalists,, screen popularies of argument and ideas – feel perpetually stalked by Mr Brown’s janissaries with threats of incomprehensible and retrospective punishment”.

Well, well what is going on? The Sunday Times tells me that HMRC is mounting a tax case against Richard Madely and Judy Finnigan that will set a legal precedent. Accountancy Age tells me that Richard and Judy are appealing against an assessment going back 10 years which is something to do with a coding notice. only employees have coding notices. The self-employed do not. So if it is something to do with a coding notice it is most unlikely to affect the vast majority of authors, freelance documentary makers and, I suspect, popularisers of argument (whatever they are) as such people are almost always self-employed.

Libby’s contrast with actors, singers, dancers and musicians is puzzling in the context of the self-employed. Like Libby I can see no possible basis for a distinction. It does however make sense in the context of employees, because although I can myself see no logical distinction Parliament can – or at least the House of Commons as it was constituted in 1990 did. It included a provision in the Finance Act 1990 to allow a deduction from earnings from an employment as an entertainer for agency fees and defined an entertainer as “an actor, dancer, musician, singer or theatrical artists”. I accordingly imagine that Richard and Judy’s dispute with the taxman is over whether or not they are actors or theatrical artists – although as a TV presenter does not seem to me to fall naturally into either of those categories I am still puzzled why they seem so confident of winning.

It is accordingly a bit unfair of Libby Purves to blame poor Gordon Brown for the sins of John Major, the Chancellor of the Exchequer who introduced this provision. It was introduced because at the time the Inland Revenue were seeking to recategorise many actors and musicians as employees of theatres. The relief was given in the context the Equity and the Musicians Union accepted that in many cases the Revenue’s view was correct. I don’t recollect anguished shouts at the time from authors, journalists and others begging to be reclassified as employees, which I imagine is why John Major saw no need to extend the relief to such categories of people.

Perhaps I am being unfair to Libby Purves. I suspect that she does not pen her own headlines, and her article does not actually blame Gordon Brown but rather his janissaries. I assume most Times readers know what such a person is. Sadly I didn’t. Nor could I find the word in any of my dictionaries but I learn from the internet that it means “a member of a group of elite, highly loyal supporters.” I assume Libby was seeking to attach that complimentary accolade to the members of the staff of HMRC.

If so, this raises an important constitutional issue. Most of us believe that under the UK constitution it is the role of parliament to make the law and of the Executive (which would include HMRC) to enforce it. Any suggestion that Gordon Brown ought to tell HMRC not to enforce laws enacted by parliament (in this case section 352, ITEPA 2003) is abhorrent to me. If he were to consider that a law introduced in 1990 is no longer appropriate the proper course is to ask parliament to change the law not to tell civil servants, however elite and loyal to him they may be, to ignore it.

I see that the Sunday Times (which appears to be the source of the Libby Purves article) says that the decision in Richard and Judy’s case could affect big names such as J K Rowling, Jamie Oliver, Frank Lampard and Michael Owen. I am somewhat surprised if J K Rowling and Jamie Oliver are self-employed. If they are not, I cannot see how an employment case can affect them – although the Sunday Times does also tell me that Margaret Drabble regards it as “disgraceful” that HMRC should seek to enforce the law as enacted by parliament. She also seems to believe that HMRC are seeking to enforce this employment income provision against the self-employed: “the self-employed are the most vulnerable with regard to tax anyway, so this will be a terrible blow”. Now that would be disgraceful! It seems to me wholly improbable though.

Frank Lampard and Michael Owen are undoubtedly employees of their clubs so they do have a problem if they have been claiming relief for agents fees. Although many football fans suspect players are acting when they are tackled and by writing on the ground until their assailant is booked, after which they seem to stage a remarkable recovery. I doubt that HMRC categroise them as actors. However I doubt that Frank and Michael have been claiming a deduction for agents fees because the press seem to believe that in most cases the club not the player pays the agent.

I await with interest the result of Richard and Judy’s case. In the meantime I hope that the Times might invite a “screen populariser of argument and ideas” (whatever that may be) to explain – and perhaps popularise – why he or she feels perpetually stalked by Mr Brown’s elite and highly loyal supporters!

Robert W Maas