Trusts Flashcards
What is the taxation of a Discretionary Trust
Trustees are responsible for paying tax on income received by accumulation or discretionary trusts. The first £1,000 is taxed at the standard rate (basic).
If the settlor has more than one trust, this £1,000 is divided by the number of trusts they have. However, if the settlor has set up 5 or more trusts, the standard rate band for each trust is £200.
The tax rates are below.
Trust income up to £1,000
Type of income Tax rate
Dividend-type income 7.5%
All other income 20%
Trust income over £1,000
Type of income Tax rate
Dividend-type income 38.1%
All other income 45%
In a trust, there is a Standard Rate of tax on the first £1,000. However, what happens if the person has multiple trusts, what does the allowance go down to?
If the settlor has more than one trust, this £1,000 is divided by the number of trusts they have. However, if the settlor has set up 5 or more trusts, the standard rate band for each trust is £200.
Do trustees have the dividend allowance in a discretionary trust?
No, they pay tax at the full rates
What is the taxation of an interest in possession trust?
Type of income Income Tax rate
Dividend-type income 7.5%
All other income 20%
Sometimes the trustees ‘mandate’ income to the beneficiary. This means it goes to them directly instead of being passed through the trustees.
If this happens, the beneficiary needs to include this on their Self Assessment tax return and pay tax on it.
What is the taxation of a bare trust
It is taxed on the beneficiaries tax position. They will need to declare this on a self assessment form
What rate of CGT do trustees pay?
Trustees only have to pay Capital Gains Tax if the total taxable gain is above the trust’s tax-free allowance (called the Annual Exempt Amount).
The tax-free allowance for trusts is:
£6,000
£12,000 if the beneficiary is vulnerable - a disabled person or a child whose parent has died
When can a new trustee be appointed to replace a trustee?
- dead
- remains out of the uk for more than 12 months
- wants to be discharged
- refuses to act
- incapable
- under 18
What happens if the last trustee dies?
Their legal representives can act as trustees until an appointment is made
What happens if a trustee misbehaves
-beneficiary can take legal action against the trustee
If court agrees they can:
- issue injunction preventing the trustee taking the course of action
- order trustee to pay compensation
- order trustee to make restitution
- order return of property wrongly transferred
What is a relevant property trust
they are discretionary trusts and most lifetime trusts created in or after 22 March 2006
What rate of tax is payable if you make a CLT and the payment is over the nil rate band
When the trust is created, this is classed as a chargeable lifetime transfer and if the settlement is over the nil rate band (or the cumulative amount is), 20% tax is payable upfront by the trustees. (If the settlor pays, you can use 25% which is 20% grossed up by 20%)
What is a trust?
A trust is a way of holding property for the benefit of other people without giving them full control over it
What cannot be held by trustees in a trust
ISAs
What is the difference between a trust and a contract?
Trusts:
- beneficiary doesn’t have to know about the trust until they are 18
- Beneficiaries can be minors
- no offer and acceptance required
- Trustees are the legal owners but beneficiaries can enforce the terms of the trust
Contract
- offer and acceptance required
- Only the parties have the right to the contract
What is a protector on a trust?
- some trusts (particularly offshore trusts) have a protector.
- They allow power to veto decisions made by trustees and can even remove them
- They exist to ensure trustees administrator the trust properly
- Not normally a trustee also
Can you be a trustee on a trust if you are bankrupt or in prison?
Yes, but it generally isn’t a good idea
What is the difference between a professional trustee and a lay trustee?
- professional trustees likely to have to charge fees, like an accountant or IFA. Will be knowledgable about the trust
- lay trustees are generally family members/friends. Do not have specialist knowledge of running a trust
What is the minimum amount of trustees you must have? And what is the maximum?
No limit, but if it is land there must be 2 trustees
For a trust corporation the maximum number of trustees is 4
What are the two minimum requirements to be a trustee?
- Over 18
2. Of sound mind
What are the advantages of having a corporate trustee
they can’t die
-professional trustee knowledge
What are the disadvantages of having a corporate trustee?
fees can be expensive, especially for a small trust
When can you replace a trustee
- dead
- outside uk for more than a year
- wants to be discharged
- refuses to act
- is unfit or incapable of acting
- infant
If the above steps don’t appoint a trustee then one will be appointed by the court.
A trust cannot exist without trustees. A trust doesn’t become invalid because there is no trustees
Can beneficiaries force trustees out?
If beneficiaries are over 18 they can force a trustee to retire/ be replaced
What happens if a trustee wants to retire?
- they can be replaced
- alternatively they could use a deed of retirement but it can only be done if 2 trustees remain and all other trustees agree.
What happens if a trustee dies?
- if 1/2 trustees dies the existing trustee can make the decisions unless it is proceeds of land (minimum 2) unless the sole trustee is a trust corporation
- If the last trustee dies their legal representatives can act until appointment is made by the settlor
Can a trustee appoint someone on their behalf, what is the exception?
yes they can appoint others, but they cannot deal with:
- power over distribution of assets
- how fees are dealt with
- appointment of new trustees
- delegation of trustee powers
Can a trustee nominate a power of attorney? What are the conditions?
yes but only for up to a year
-written notice must be given to the appointer and all other trustees within 7 days
Can lay trustees charge for their time?
Lay trustees cannot charge for their time
Can professional trustees charge for their time?
- Professional trustees can charge for their time and can be compensated by the trust assets
What is a trustees exemption clause?
- These can be added into the contract and the trustee wouldn’t get into trouble if they made a mistake with investments etc. These wouldn’t work in the event of fraud.
Types of beneficiary:
What is Absolute interest:
- Beneficiary has a full equitable ownership to income and capital that cannot be taken away.
What is a life interest beneficiary
- Beneficiary entitled to income but not the capital.
What is a revisionery interest beneficiary?
- Beneficiaries only get income and capital after death of settlor
Can the beneficiaries demand trustees hand over trust property ?
Yes, provided that:
- they are over 18 and of full mental capacity
- they all agree
- no other potential beneficiaries
What is a Immediately post death interest, what tax applies?
-interest in possession trust set up on death/through will there will be no IHT Exit or periodic charges
What is a power of appointment?
- trustees can alter the beneficiaries
- Default beneficiary will have the right to income (income in possession)
Give an example of a statutory trust
Someone dies with no will and money should go to children but they are underage so a trust is set up until they are old Enough
What should a trust deed specify:
specify the trust property
- name the trustees and beneficiaries
- set out the powers of the trustees
- set out rights of beneficiaries
Explain a secret trust
- A secret trust is an arrangement between a testator and a trustee to benefit a person without having to specify that person in a will.
legatee looks after the trust for the secretly named beneficiary
What is half secret trust?
- a “semi-secret trust” is a trust wherein the will mentions a trust, but it does not specifically name any beneficiaries or is unclear on the specific terms of the trust.
When do discretionary trusts not have to pay exit charges?
- If total CLTS over the last 7 years are under the nil rate band (PETS aren’t included in this calculation)
- Where a discretionary trust is created as a result of a will trust there is no entry charge as the IHT will have already been paid on the estate before the asset was placed into the trust.
What are the three certainties for a trust
Words/intention
Subject matter (what is held under trust)
Objects (beneficiaries)
What is a perpetuity period on a trust?
- how long the trust lasts for
- means the trust cannot be passed on continuously.
- Max period for a trust is 125 years.
Can a trust be changed?
Once a trust is created, it is usually irrevocable. Settlors cannot change their minds and recover the trust property unless there is a specific term in the trust permitting this. A trust cannot usually be varied once it has been created. However, the trustees of a power of appointment or discretionary trust can vary or add to the beneficial class and/or their interests, but only within the prescribed class.
How long can a charity trust last?
Indefintely
Why should a life policy be written under trust?
- The proceeds couldn’t be paid until the executors have obtained probate or letters of administration. This can take a long time and cause a delay before the beneficiaries receive payment.
- If the policyholder hasn’t made a will, the estate and proceeds of the policy will be distributed according to the intestacy rules. These may not be what the policyholder wants and the policy proceeds could go to people that the policyholder didn’t intend for.
- On death, the proceeds of the policy will be part of the policyholder’s estate and may be subject to IHT. Writing the policy in trust means the policy will be outside of their estate and no IHT due
What is the taxation of a bare trust
taxed on beneficiary
- trustees not responsible for tax, beneficiary has to declare it
- beneficiary can use all their tax bands
What happens with income on bare trust with minor beneficiaries
Income from a bare trust of a minor should be taxed on the parents of over £100
not taxed on parent if money comes from grandparent
-could be used for grandchildren school fees
What counts as Vulnerable beneficiaries
Disabled people have to be
- receiving attendance allowance or PIP
- unable to manage own affairs because of a mental health problem
Relevant minor trust
- under 18 with at least one dead parent
- can apply for lower of £3k/3% of trust income income without proving it’s for vulnerable beneficiaries
How are vulnerable / disabled trusts taxed
Taxed on the beneficiaries. The difference between the rate the trustees pay and the beneficiaries is the effective tax relief
Describe interest in possession trusts
trustees pay tax at basic rate for beneficiaries
- cannot use beneficiaries tax bands only not trustees
- beneficiaries can get tax credit if trustees paid too much tax
Order of how income is taxed on a trust
Trust expenses are set against income before being paid to the beneficiary in the following order:
- UK dividends;
- foreign dividends;
- savings income; and
- other income.
- if beneficiaries are non tax payers they can reclaim tax paid
- If higher rate they will have additional tax to pay
- can have income paid direct to beneficiaries but if they do this the trust may not be able to claim trust expenses
Discretionary trusts tax
The trustees have a standard rate band which, in 2019/20, is £1,000 divided by the number of such trusts created by the settlor that were in existence for any part of that tax year. This is subject to a minimum of £200 per trust. Income within the standard rate band is liable to income tax at 7.5% or 20% depending on its source.
• Thereafter, 45% income tax is payable on income other than dividends.
• For UK dividends, the trust rate is 38.1%.
• Unlike individuals, trustees do not benefit from a personal savings allowance for savings income or a dividend allowance.
How are distributions to a beneficiary taxed in a beneficiary trust
When trustees of a discretionary trust make an income distribution to a beneficiary, they must have paid tax at 45% on that distribution and the beneficiary receives trust income with an equivalent tax credit. If the tax actually paid by the trustees is less than 45% because some of the trust income fell within the trust’s standard rate band or because it was taxed at the dividend rate, the trustees must account for the extra tax to make up the 45%.
Can beneficiaries use dividend allowance on discretionary trusts
No
What is the cgt annual exemption on trusts
Tax-free allowance
Trustees only have to pay Capital Gains Tax if the total taxable gain is above the trust’s tax-free allowance (called the Annual Exempt Amount).
The tax-free allowance for trusts is:
£6,000
Up to minimum of £1200 for five trusts
£12,000 if the beneficiary is vulnerable - a disabled person or a child whose parent has died
What is the cgt rate for trusts
20% or 28% for residential property
What is pre owned assets tax
pre-owned assets tax (POAT) is an income tax charge based on the annual value of the use of the assets.
The periodic charge/ten-year anniversary
Stan set up a discretionary trust in June 2019 for his grandchildren, we will look at the periodic charge that would arise on the tenth anniversary of the trust using the current rules.
First, we need to calculate the hypothetical transfer and the effective rate to calculate the periodic charge.
If the trust fund is valued at £525,000 at the ten-year anniversary and the nil rate band remains at £325,000, the rate would be:
£525,000 – £325,000 = £200,000. £200,000 × 30% × 20% = £12,000.
This is an effective rate of 2.2857% (i.e. £12,000 ÷ £525,000).
The ten-year anniversary charge, or periodic charge, is therefore: £525,000 × 2.2857% = £12,000.
Benefits of using a trust for IHT
- settlor can be a trustee so retains control of the money
- trust can provide cash if estate is tied up with probate
- trusts can protect family wealth e.g. against divorce, bankruptcy
- certainty that the chosen people will benefit from the trust
What should someone consider before making a PET?
whether the asset produces income that the donor needs
- whether there is any business relief on the PET
- if CGT holdover relief is available
- whether the donor should pay into their pension first
Who are discretionary trusts best suited for?
discretionary trusts are well suited to those circumstances where there are clear tax advantages to be gained by removing an asset from an estate, but where the ultimate beneficiary has not been chosen at the time of the transfer.
How, if at all, do mirror wills differ from mutual wills?
Following the death of one party, mirror wills allow the survivor to revoke their will, whereas mutual wills require that the survivor does not revoke their will.
Discretionary trust and charitable trusts - For how long can the trustees accumulate income in these trusts
21 years for charity trust and no limit on discretionary
In what form must a power of attorney be given?
By written deed, signed by the donor and witnessed by at least two people.
Janet has been adjudged bankrupt. What is the maximum credit that Janet can apply for without disclosing her status?
£500
Explain how long the two mental health sections last
You could be detained for:
up to 28 days under Section 2 of the Mental Health Act
up to 6 months under Section 3 of the Mental Health Act, with further renewals
When do trustees have to pay their tax by?
They have to make payments on account based on the previous year’s income tax by 31 January in the year of assessment and 31 July following.
• They must pay the balancing charge by 31 January following the tax year with any CGT.
What are the available trusts for a relevant minor (under 18 and parent(s) dead
- statutory trusts
- trusts established the will of a deceased parent
- trusts established under compensation
What allowances can you use for interest in possession trusts
Only personal allowance of the beneficiary, no others allowed
Describe the tax treatment of money being passed to beneficiaries for Interest in Possession and discretionary
Interest in possibility - taxed at basic rates, beneficiary then has to pay more
Discretionary - taxed at higher rates (after £1k) paid to beneficiary at 45%, beneficiaries can reclaim tax
Explain how to gross up expenses on a trust
Expense x 0.8%
