It was thought that the Government of the day appreciated this, and therefore the changes announced in Gordon Brown’s Budget speech on 22 March 2006 came as a surprise to all who dealt specifically with ‘Accumulation and Maintenance’ (‘A & M’) Trusts; such trusts invariably having been created to provide for the maintenance and education of minors allowing gifts to be made during a child’s minority.
‘A & M’ Trusts had previously enjoyed favourable tax status but were found to be the chief victim of the rule changes, such that if created post 6 April 2006 they are aligned with the ‘relevant property trust’ (‘RPT’) regime and taxed accordingly ( i.e. the ‘favoured’ status was no more). There is a form of ‘favoured Trust’ in its stead, but it is more restrictive in application and ability to be created. This article covers the rules relating to these new trusts - ‘Trusts for Bereaved Minors’ and the additional ‘Age 18 and 25’ Trust.
Overview – the IHT rules
Under the ‘RPT’ regime IHT is payable:
• On the transfer of assets into the trust;
• On the 10 year ‘anniversary’ of the trust being set up;
• On the transfer of assets out of the trust (or cessation of the trust) - an ‘exit’ charge’ at the ‘anniversary rate’.
Trusts for Bereaved Minors
Unlike ‘A & M’ trusts which were allowed to be created by anyone during their lifetime or via a will, ‘Trusts for Bereaved Minors’ (‘TBM’) can only be established by a parent under their own Will for their own children. The term ‘parent’ includes step-parent and any person who has parental responsibility for the minor. The creation of a ‘TBM’ means that although IHT remains payable in the usual way on the parent’s death (assuming that the estate exceeds the IHT chargeable limit), none is payable by the trust and no charges are levied provided that when the child reaches the age of 18 years they become absolutely entitled to all of the capital held within the trust (plus any accumulations of income).
Specific rules are that:
• funds added to the trust following creation are not allowed the tax favoured status.
• trustees cannot vary the share of the assets held by beneficiaries without losing the favoured status.
• all property must be advanced from the trust either to or for the benefit of the beneficiary before the beneficiary reaches 18 years.
This last stipulation could, of course, produce problems should the beneficiary be giving ‘cause for concern’ in his/her late ‘teens’. Therefore the legislation allows trustees to transfer the property into a trust allowing a life interest rather than giving the property to the beneficiary absolutely at 18 years. No IHT is charged on the transfer but that is where the benefit ends as the trust would then, unfortunately, be deemed a trust falling within the ’’RPT’ regime and hence be subject to the ’anniversary’ and ‘exit’ charges.
‘Age 18 to 25’ trusts
This is a ’bolt on‘ to the ‘TBM’ provisions such that if, instead of inheriting at age 18, the trust provides for the age of inheritance to be 25, then the following applies for the period that the child is between the ages of 18 and 25 years:
• there are no IHT ’anniversary’ charges whilst the beneficiary is under the age of 18;
• No ‘exit’ charge applies where an absolute interest is taken at the age of 18;
• However, there will be a reduced IHT charge (using the same method of calculation as the ‘exit’ charge) should there be an advancement of assets or the beneficiary die whilst between the ages of 18 and 25 years.
What does this mean in practical terms?
As the maximum rate of a 10 year ’anniversary’ charge is 6%, for a maximum period of 7 years, the rate of IHT will therefore be 4.2% on the excess over the Nil Rate Band (‘NRB’). This means that should parents wish their children to inherit at age 25 and not 18 the ‘Age 18 to 25’ trust will be faced with this extra tax bill. However, many parents may decide that 4.2% is a price worth paying to safeguard the underlying assets whilst the child matures.
Unfortunately, such trusts are not an option available to grandparents so if property is left to grandchildren until aged 25 years then it may fall within the ‘RPT/mainstream trust’ regime for anything up to 25 years, incurring a maximum cumulative IHT charge of 15%. This charge may not be considered a price worth paying.
It can be seen that these new forms of trusts are not as flexible as those that came within the ‘A & M’ regime so...
What to do if your situation does not fall within the new rules?
• Remember: these trusts are for use by parents only whose value of assets exceeds the NRB - a lifetime transfer into a trust of an asset valued at less than the NRB is not subject to IHT (assuming no previous chargeable lifetime transfers), meaning that any subsequent withdrawals made before the ‘anniversary’ date will also not be taxed. Further, if the total value (not forgetting to account for previous withdrawals) of the trust’s assets at the ‘anniversary’ date remains under the NRB then there will still be no IHT charge nor on any subsequent withdrawals.
• Grandparents could still create a NRB trust for their grandchildren, the initial gift being covered by the NRB such that advances made within the first 10 years for the grandchildren’s, ‘maintenance, education and benefit’ are IHT free. In addition, any advances made would remove a significant amount of the value from within the fund such that any further charges should be relatively low.
• It could be possible for assets to be jointly owned - this might achieve the desired result of decreasing the donor’s estate whilst still enabling the prevention of a sale of the underlying asset which could not be achieved should an absolute gift be made to the minor. However, this method might not achieve the nil IHT position possible under a ‘TBM’ trust.
• It might not be the minor who causes concern - a married couple (one of whom has been married before and who has children from a former marriage) may prefer to create a qualifying ‘interest in possession’ (IIP) trust under which the surviving spouse receives income for life but the capital asset is preserved for the children.
As ever, this is an area of tax planning that needs careful consideration as there are many questions that need to be answered. For example, what happens if the trust asset is a residence only? How is any IHT charge to be funded? Trustees may require the ability to borrow to fund any such charge or an amount may need to be retained in a deposit account. Specialist advice is needed.