Many people in the past have been reluctant to use tax planning involving a trust, especially a Discretionary Trust, as they see it as complicated, over-burdening and expensive. However in all reality this is not the case.
There are other types of Trust that can exist, with different legal and tax consequences, but I am concentrating on a Discretionary Trust. This is a Trust where no beneficiary has an entitlement to the income or capital, instead the Trustees choose how much income in the Trust should be distributed to whichever beneficiary they choose.
This allows the Settlor, who is usually also then one of the Trustees, to make provision for others, whilst retaining a level of protection and more importantly control over assets
Inheritance Tax (IHT)
Discretionary Trusts are subject to IHT based on the value of the assets at its creation, but will only incur a liability if the value after any reliefs, plus any gifts in the previous seven years, exceed the Nil Rate Band, currently £325,000. Care needs to be taken as this is a chargeable transfer so any other chargeable transfers in the seven years from commencement may incur a lifetime charge to IHT at 20%.
If assets are distributed to a beneficiary, and on every 10th anniversary of the Trusts creation, an Inheritance Tax charge will arise. The rate of tax will depend on the circumstances, but the maximum liability will be limited to 6% of the value.
Discretionary Trusts also pay income tax on any income arising at 45% (38.1% on dividends) but a tax credit is passed to beneficiaries when distributions are made, with the beneficiary then able to recover any surplus tax based on their personal circumstances.
Capital Gains Tax (CGT)
CGT is due on the disposal of assets in the Trust at a rate of 28%.
The availability to transfer into the Trust assets with a high capital gain which can then be held over into the Trust meaning that no tax is due on it’s creation. The same position arises on an exit, but this is not the case where the family home is the asset, and in this instance greater tax planning will be needed.
As the beneficiaries have no right to income or capital, the value of a Discretionary Trust should not be taken into account for any marital claims, care home provision or other legal issues.
In summary, a Discretionary Trust can provide a useful mechanism to hold property for the benefit of others but retaining an element of control over the underlying asset.
Every situation will be different and you should take professional advice in respect of your own circumstances.
For more advice on Discretionary Trusts please don't hesitate to give me a call on 01297 33388.
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