Trusts School Lesson 4 Q&A

Q. When we talk about a "gift trust" is that just an umbrella term for trusts that aren't one of the other three (DGT/Loan/Reversionary)?

A. Most trusts are gifts trusts, other than loan trusts. In the context of different types of insurance company trust we would use gift trust as a term for a trust where the settlor has no access.

Q. Concerning GIFT TRUSTS, you mentioned that setting them up for adults is pointless. I assume you mean an Absolute Gift Trust and not a Discretionary Gift Trust? Surely beneficiaries cannot demand a payout from the latter?

A. Yes, we believe an absolute gift trust for an adult beneficiary is pointless. Discretionary gift trusts with adult beneficiaries are very useful. An adult beneficiary of a discretionary gift trust cannot normally demand the trust property.

Q. If a widow "inherits" her spouse's full NRB, can she invest £650,000 into a Gift Trust before incurring an entry charge? Or is she restricted to her own £325,000?

A. She is restricted to £325,000 as the transferred amount cannot be used for lifetime gifts, only on death.

Q. Can you set up a DGT on nil (or trivial) income using Bare Trust so that the beneficiary absolutely cannot access trust until settlor's death? Or does the lack of an income stream mean they could demand some of the fund?

A. You cannot set up a DGT with no withdrawals carved out for the settlor.  We also think setting up an absolute DGT with a minimal “income” payment in the hope that this restricts the beneficiary’s access is risky, gives trustees challenges on their fiduciary duties, is open to challenge by the beneficiaries and so should probably be avoided.

Q. Most trusts use bonds -what happens to, say, DDGT once bond has been in force for more than 20y? - income tax ?

A. We assume you mean a discretionary discounted gift trust. If so then it depends how much tax deferred allowance is available. If the settlor has taken 5% withdrawals p.a. since inception then there will no tax deferred allowance available. Any subsequent partial withdrawals will result in excess gains going forward.

Q. Could you use the income from a DGT to fund gifts from surplus income?

A. No. The settlor’s payments from a DGT are capital not income so are not included for the purposes of the normal expenditure out of income exemption.

Q. Isn't income requirement a necessity of a DGT? Will there be implications for wrong advice?

A. We believe setting up a DGT where the payment stream is not required is unlikely to be suitable.

Q. I will listen back to re-hear what you said, I'm curious as to the statement when discussing DGT that if chap lived longer than 7 years, he may as well simply given the funds away.....curious as working with wealthy client, only 65, who likes the idea of discount in return for long term income

A. The discount is a byproduct of the planning requirement to remove capital whilst maintain a payment stream that will be getting spent. Setting up a payment stream for payments you do not need is pointless as they just build up back in the estate, or prevent you using other capital in the estate to meet needs.  We regularly see cases where people have been attracted by a discount but then die with significant payments sitting back in the bank account as they never needed them.

Q. Some other providers will not allow settlors to also be lives assured on DGTs due to potential conflict with GWROB - I know Pru don't have this opinion but why is that?

A. When we got external legal advice on our trusts, we were advised this was not necessary for Discounted Gift Trusts as the settlor’s rights were set out in the policy and did not vary under the bond.

Q. Where do you get the updated discount calculation from for the periodic charge on a DGT?

A. The provider of the DGT will usually supply this on request.   

Q. For JL 2nd death DGT withdrawals, do these have to be reduced on 1st death, so that future withdrawals only relate to the carved out amount attributable to the remaining settlor?

A. No, the payment stream is held on joint tenancy so continues at the full amount. We would advise careful consideration before doing joint settlor DGTs due to this point. Two single DGTs may give better options and more flexibility on future income levels post 1^st death (subject to trustees being in agreement). 

Q. Reversionary Trust when part of the policy matures and you decide to withdraw the segments, I reckon its a chargeable event on the settlor, taxed on their marginal rate?

A. If the settlor is alive and UK resident in the tax year a chargeable event arises then yes, assuming the segments haven’t been appointed absolutely in favour of a beneficiary, the gain will be assessed on the settlor 

Q. Is there a reason why an FRT needs to be discretionary? Presumably due to the flexible payments?

A. A Flexible Reversionary Trust relies on the trustees to have discretionary powers to give the trust its flexibility. Using these powers, the trustees can defeat or defer the settlor’s reversionary interest.  Those powers would not be available to the trustees in an absolute trust. If the beneficiaries were absolutely entitled to the bond, then it would be difficult to carve out the settlor’s reversionary interest in a way that the trustees could defeat or defer.

Q. With a reversionary trust, if there are deferred interests at the time the settlor dies, do they form part of the settlor's estate?

A. No. If reversions have been deferred until a date after the settlors death then they do not form part of their estate.

Q. Why isn't a Reversionary Gift Trust a Gift With Reservation?

A. They are carefully structured not to fall foul of the gift with reservation and preowned asset tax rules. As the right to reversions is carved out for the settlor at the outset of the trust, the settlor has never made a gift of the right to reversions, and therefore has never made a gift with reservation. HMRC have confirmed that this is the case in their IHT manual here. IHTM20562 - Flexible Reversionary Trusts: further details - HMRC internal manual - GOV.UK

Q.If Trustees return money to the settlor under a Reversionary Interest Trust could other beneficiaries make a claim against the trustees if they considered it was against their interests?

A. There is a view that under trust law, the trustees should always defeat the settlor’s interests in favour of the beneficiaries of the trust. Equally, under trust law the trustees have a duty to take the settlor’s wishes into account (although they are not bound by them). However, as far as I am aware there has not been any formal challenge to the reversionary interest trust structure.

Q. What is the Tax calculation when taking Loan repayments and FRT Reversions? Would this differ if the Bond is Onshore or Offshore?

A. Loan repayments are often structured using the 5% tax deferred withdrawal facility on a bond. FRT reversions will usually consist of bond segments that the settlor will cash in, which will be a full surrender.  In this case, the settlor will be taxed on any profit that those segments have made. An onshore bond will have a 20% tax credit which will satisfy any basic rate tax liability. Top-slicing relief will be available for both onshore or offshore bonds in these circumstances.

Q. I know how the use of loan trusts work but can they be substituted with Lifestyle trusts?

A. Whether a loan trust or reversionary interest trust is more appropriate for a particular client depends on the type and level of access required as well as how much is being placed into trust. If a client wants full flexible access to the amount being placed into trust then a reversionary interest trust is not going to provide that. If they are comfortable just having access to specific reversions then a reversionary interest trust is probably more suitable because the gift is then out of the estate after 7 years. You may also have a client who is looking to put more than their nil rate band into a trust or trusts. With a reversionary trust you will have an entry charge for amounts in excess of the nil rate band, with a loan trust you do not. In some cases it may be a question of using both a reversionary trust and a loan trust.

Q. For clients who have no need for funds but struggle to initially give up access, are Loan Trusts which are then waived in the future sensible? At this point does a waived trust just become a standard discretionary gift trust?

A. Loan trusts can be very useful for clients who are cautious about giving up access. It gets the ball rolling with some IHT planning without making drastic irrevocable steps. If, in future the full loan is waived, then it is essentially treated in the same way as a gift trust going forward.

Q. Are gifts into a Loan trust limited to the £325k limit?

A. No. There is no transfer of value for Inheritance tax purposes when a loan trust is being set up as the trust has been set up with a loan, not a gift. The settlor’s estate has the same value before and after the trust is set up as the outstanding loan is an asset of their estate. As there is no transfer of value, there is never an IHT entry charge when a loan trust is set up.

Q. Requesting full loan back from loan trust at some stage, if set up investment as a bond how would this interact with the investment structure/allowances. Would it be assignment of segments back to settlor?

A. No. Repaying a loan by an assignment of segments would in our opinion be an assignment for money or money’s worth and would trigger a chargeable event. To repay the loan the trustees need to take a withdrawal from the bond. Normal bond withdrawal methods and chargeable event rules apply. You would need to calculate what gain would arise on a full and/or partial surrender of segments in the same way as you would with a personally owed bond. In terms of who is assessed on any gain arising, it would depend on the type of trust i.e. absolute or discretionary.

Q. How does waiving part of the loan affect the calculation of IHT periodic charges for a discretionary loan trust

A. Where you have added property to a discretionary trust, including waiving part of a loan, there is an extra step in the periodic charge calculation to take account of the fact that the added property hasn’t been relevant property for the full 10 years. You can see an explanation and couple of examples in HMRC’s IHT manual here. IHTM42088 - Ten year anniversary: Tax calculation: the rate of tax: Step 4: relief for assets that have been relevant property for less than the full 10 years - HMRC internal manual - GOV.UK

Q. If the loan in a loan trust is waived in total - has the trust collapsed and after 7 years do the beneficiaries hold the bond directly?

A. No. If the loan is waived in full, the trustees continue to hold the trust fund in accordance with the terms of the trust. If it’s a discretionary loan trust, the trustees have discretion over who benefits and when. If its absolute and the beneficiaries were adults the trustees would then distribute the trust fund, either by encashing and distributing the proceeds or segment assignment. 

The waived loan (after any exemptions) will either be a potentially exempt transfer (if trust is absolute), or a chargeable lifetime transfer (if trust is discretionary). The gift will form part of the settlor’s IHT calculation for 7 years but has no relevance to the beneficiaries becoming direct owners of the bond.

Q. For larger estates, is a Loan trust the best place to start IHT planning as this is 'Not a Gift'?

A. Client objectives are primary but if the client has money they don’t need access to then the best place to start is by making gifts (outright or gift trust) as gifts fall out of the IHT calculation after 7 years. If however, you are setting up a discretionary loan trust in conjunction with making other gifts then yes, setting the loan trust up first will protect the nil rate band for periodic charges for any discretionary trusts involved.

Q. Where waiving a loan amount from a loan trust, presumably this will use up available NRB for the trust, for the purposes of periodic/exit charges?

A. No, waiving part of the loan does not directly impact the nil rate band for the trust. That said, where you add property to a discretionary trust s67 IHT Act comes into play and means you need to carry out an alternative calculation for working out the trusts nil rate band. Normally any chargeable transfers in the 7 years before the trust commenced will reduce the trust’s nil rate band. Where you add property to the trust you also need to look at whether there are any chargeable transfers in the 7 years before the addition as well. The nil rate band for the trust is the lower result of these two calculations.  

Q. Can the settlor of a loan trust keep the "natural income" from a portfolio of assets?

A. No. The settlor of a loan trust is entitled to the outstanding loan. The fact that the trustees may decide to invest in income producing assets has no impact on this. 

Q. With a loan trust, if the settlor takes back all the loan in their lifetime and then , inadvertently, receives some of the growth - does all the IHT planning become null and void?

A. If they have had more than the loan repaid they should seek guidance form a solicitor. I don’t believe it will necessarily invalidate all the planning but it depends on the facts of the case.

Q. You said using a Loan Trust after a discretionary trust - is that the right way round because I thought the CLT will use up NRB? I thought you should use a loan trust before a discretionary trust because the loan trust doesn't use up NRB

A. I agree. A discretionary loan trust should be set up before a discretionary gift, discounted gift or reversionary interest trust because there’s no transfer of value so it won’t impact the nil rate band of trusts set up subsequently.

Q. Can you put in your Will to waive the loan trust to get back some, or all, of the RNRB?

A. Waiving the loan on death will not help regain residence nil rate band. The outstanding loan is an assets of the settlor’s estate regardless of whether it is waived or not and will count towards estate value for the purposes of the taper.

Q. Is it worth having beneficiaries as lives assured on the bonds within a loan trust to give them more options when they have access to the money?

A. It can be beneficial to have beneficiaries as lives assured if you want the bond to continue after the settlor’s death. However, you need to consider the tax position of all of the parties involved (where its a discretionary trust). In some cases it’s more appropriate for the settlor to be the sole life, if for example they have a lower tax position that the beneficiaries such as basic rate. In these cases a chargeable event assessed on the settlor may be preferable to the bond continuing and later being assigned out to beneficiaries who are higher or additional rate taxpayers.

Q. Can you clarify how the Pru Loan Trust is typically structured? Does it waive the loan, or do the trustees/beneficiaries assume it, as indicated in the second and third options on your slide?

A. The settlor has to make an active choice to waive the loan by either ticking a box on the trust deed at outset or adding a codicil to their Will. If it is not waived it vests in the estate on death.

Q. Can you explain how an entry charge is paid please - is it from own resources? and how is it policed?

A. Like all taxes those responsible to pay them need to police themselves and report and pay according to the law. The entry charge can either be paid by the trustees from trust resources or the settlor could pay, but this would require the value of the gift to be grossed up, to compensate for the further loss to the trust.

Q. Can you compare using 2 nil rate band trusts for a married couple versus a single trust with joint settlors regarding periodic charge, administration, and overall flexibility?

A. That is too big a question!  If you are a paraplanner get along to a Professional Paraplanner Technical Insight Seminar as we are doing that very topic there. As for IHT joint or single doesn’t matter as a joint trust is treated as two separate gifts for IHT purposes.

Q. A will trust eludes to a vulnerable beneficiary of which solicitor has eluded to it being discretionary but could meet VB definition. If solicitor do not elect as a VB what is the IHT position on death for Beneficiary if they hold no other assets trust assets. Does Trust pickup the IHT bill?

A. Assuming the discretionary trust meets the conditions to qualify as trust for a vulnerable beneficiary, my understanding is that the trust will not be subject to the relevant property regime and will form part of the beneficiary’s estate for IHT. The vulnerable person’s election affects the income tax and CGT treatment of the trust, not the IHT status. Where there is a solicitor involved who has drafted a trust, I would always ask them for their professional opinion on the trust that’s been created.

Q. Is the provider responsible for enforcing (or even advising or commenting on) the terms of the trust and whether the trustees are acting within the terms of the trust?

A. No the trustees are responsible for administering the trust according to the law and the trust terms, if they do not have the necessary expertise they need to pay from advice from an appropriate professional depending on what is at point. The provider may assist but ultimately legal advice may be required.

Q. What about the order of gifting?

A. Broadly, discretionary Loan Trust first, CLTs in order of increasing value then PETs.  Absolute loan trust scan get done at any time.

Q. If the trustees do not follow the rules of the trust, eg distribute a gift trust to a beneficiary, does HMRC have a claim if the settlor's IHT is reduced?

A. We do not believe a subsequent breach of trust by trustees affects the IHT effectiveness of the gift made, unless the breach of trust was to benefit the settlor.

Q. Would the parental settlement rules apply if a parent set up a discretionary trust for the benefit of their (unmarried) partner, children & remote issue?

A. Yes, if money was used for their unmarried minor child.

Q. If a single widower has sold his property for £1 million and needs access to pay for his new retirement flat service charges of say £45,000 pa would your technical opinion be to use multiple different Trusts rather than put the £1million into one Trust and get the growth out of the Estate?

A. It would depend on wider circumstances and objectives. As a (very) general rule we’d say multiple trusts would only be used where periodic charge planning was a consideration or other non-tax reasons such as having a trust for each branch of a family.

Q. What's the best way to assign segments of a discretionary trust to a minor, for monies to be used towards their private school fees?

A. You would appoint segment’s using a deed of appointment as opposed to a deed of assignment – this places the tax liability for the appointed segments on the beneficiary, leaving legal ownership with the trustees to do all the admin, payments etc

Q. Are there any circumstances where an absolute trust can be unwound?

A. Fraud, error or undue influence. The court would need to order the wining up of the trust.

Q. What are we needing to check for about the start of the insurance company Trust when doing the 10 year return? We doing one where the Trust [Pru Discretionary] signed on 4th April and that was what declared on TRS, but the funds didn’t arrive until 24th April. We've used 4th as relevant 10 year...

A. We believe whilst the trust was created on the 4^th, the trust would not be fully constituted until the bond was issued and the bond issue date should be the trigger for the 10 year anniversary.

Q. How do trustees pay fees e.g. TRS agent & accountant, without a traditional trustee account? Would segment surrenders only be possible to trust beneficiaries, and if money is paid to a non-trustee account, would HMRC consider it the account holder's money in their estate?

A. It is best practice to have a trustee account where there are lots of money movements envisaged. We understand it is common practice for some money to wash trough trustees personal accounts but this is not ideal. The trustees you would want to ensure you had a clear audit trail that it was money they had in a trustee capacity not a personal capacity to avoid any knock on consequences.

Q. Presume if settlor is sole life assured on death the bond has to end and chargeable gain assessed on settlor?

A. Assuming it is in a non-bare trust on death then, yes.

Q. If an Inheritance tax solution product(BR) is put into a Trust after the 2 year qualifying period. How are payments out to Beneficiaries treated for tax on the beneficiary? Is it Tax to the Trust or beneficiary? Is it CGT or is it treated as Income from the Trust?

A. The fact it is BR isn’t material here. It is either capital or income based on the facts of the underlying investments. As we understand it, it could be income or capital.

Q. SJP advisers' claim that old Spousal by-pass trusts will remove pension death benefits from the estate and mitigate IHT from April 2027? I'm reading the opposite and believe they won't work. Any comments?

A. They won’t remove the pension from being included in the estate of the pension scheme member on their death  but will prevent the value of the death benefits ending up in the beneficiaries estates, which is what they have always done.

Q. Can a nomination be made in favour of a discretionary trust from a Personal Pension?

A. Yes, assuming the scheme rules allow payment to trusts.