Transferring assets

Using a trust to pass assets to beneficiaries

Trusts may incur an Inheritance Tax charge when assets are transferred into or out of them or when they reach a ten-year anniversary. The person who puts assets into a trust is known as a settlor. A transfer of assets into a trust can include property, land or cash in the form of:

– A gift made during a person’s lifetime

– A transfer or transaction that reduces the value of the settlor’s estate (for example an asset is sold to trustees at less than its market value) – the loss to the person’s estate is considered a gift or transfer

– A ‘potentially exempt transfer’ whereby no further Inheritance Tax is due if the person making the transfer survives at least seven years. For transfers after
22 March 2006 this will only apply when the trust is a disabled trust

– A gift with reservation where the transferee still benefits from the gift

If you die within seven years of making a transfer into a trust extra Inheritance Tax will be due at the full amount of 40 per cent (rather than the reduced amount of 20 per cent for lifetime transfers).

In this case your personal representative, who manages your estate when you die, will have to pay a further 20 per cent out of your estate on the value of the original transfer. If no Inheritance Tax was due when you made the transfer, the value of the transfer is added to your estate when working out whether any Inheritance Tax is due.

Settled property
The act of putting an asset into a trust is often known as making a settlement or settling property. For Inheritance Tax purposes, each item of settled property has its own separate identity.

This means, for example, that one item of settled property within a trust may be for the trustees to use at their discretion and therefore treated like a discretionary trust. Another item within the same trust may be set aside for a disabled person and treated like a trust for a disabled person. In this case, there will be different Inheritance Tax rules for each item of settled property.

Even though different items of settled property may receive different tax treatment, it is always the total value of all the settled property in a trust that is used to work out whether a trust exceeds the Inheritance Tax threshold and whether Inheritance Tax is due.

If you make a gift to any type of trust but continue to benefit from the gift you will pay 20 per cent on the transfer and the gift will still count as part of your estate. These are known as gifts with reservation of benefit.

Avoiding double taxation
To avoid double taxation, only the higher of these charges is applied and you won’t ever pay more than 40 per cent Inheritance Tax. However, if the person who retains the benefit gives this up more than seven years before dying, the gift is treated as a potentially exempt transfer and there is no further liability if the transferor survives for a further seven years.

From a trusts perspective, there are four main occasions when Inheritance Tax may apply to trusts:

– when assets are transferred – or settled – into a trust

– when a trust reaches a ten-year anniversary

– when settled property is transferred out of a trust or the trust comes to an end

– when someone dies and a
trust is involved when sorting out their estate

Relevant property
You have to pay Inheritance Tax on relevant property. Relevant property covers all settled property in most kinds of trust and includes money, shares, houses, land or any other assets. Most property held in trusts counts as relevant property. But property in the following types of trust doesn’t count as relevant property:

– interest in possession trusts with assets that were put in before 22 March 2006

– an immediate post-death interest trust

– a transitional serial interest trust

– a disabled person’s interest trust

– a trust for a bereaved minoran age 18 to 25 trust

Excluded property
Inheritance Tax is not paid on excluded property (although the value of the excluded property may be brought in to calculate the rate of tax on certain exit charges and ten-year anniversary charges). Types of excluded property can include:

– property situated outside the UK that is owned by trustees and was settled by someone who was permanently living outside the UK at the time of making the settlement

– government securities, known as FOTRA (free of tax to
residents abroad)

Inheritance Tax is charged up to a maximum of 6 per cent on assets or property that is transferred out of a trust. The exit charge, which is sometimes called the proportionate charge, applies to all transfers of relevant property.

A transfer out of trust can occur when:

– the trust comes to an end

– some of the assets within the trust are distributed to beneficiaries

– a beneficiary becomes absolutely entitled to enjoy an asset

– an asset becomes part of a ‘special trust’ (for example a charitable trust or trust for a disabled person) and therefore ceases to be relevant property

– the trustees enter into a non-commercial transaction that reduces the value of the trust fund

There are some occasions when there is no Inheritance Tax exit charge. These apply even where the trust is a relevant property trust, for instance, it isn’t charged:

– on payments by trustees of costs or expenses incurred on assets held as relevant property

– on some payments of capital to the beneficiary where Income Tax will be due

– when the asset is transferred out of the trust within three months of setting up a trust, or within three months following a ten-year anniversary

– when the assets are excluded property foreign assets have this status if the settlor was domiciled abroad

Passing assets to beneficiaries
You may decide to use a trust to pass assets to beneficiaries, particularly those who aren’t immediately able to look after their own affairs. If you do use a trust to give something away, this removes it from your estate provided you don’t use it or get any benefit from it. But bear in mind that gifts into trust may be liable to Inheritance Tax.

Trusts offer a means of holding and managing money or property for people who may not be ready or able to manage it for themselves. Used in conjunction with a will, they can also help ensure that your assets are passed on in accordance with your wishes after you die.

Writing a will
When writing a will, there are several kinds of trust that can be used to help minimise an Inheritance Tax liability. From an Inheritance Tax perspective, an ‘interest in possession’ trust is one where a beneficiary has the right to use the property within the trust or receive any income from it. Assets put into an interest in possession trust before 22 March 2006 are not considered to be relevant property, so there is no ten-yearly charge.
During the life of the trust there are no exit charges as long as the asset stays in the trust and remains the ‘interest’ of the beneficiary.

If the trust also contains assets put in on or after 22 March 2006, these assets are treated as relevant property and are potentially liable to the ten-yearly charges.