Session 005: Calculating the tax liability - Individuals and non-bare trusts Q&A

Top slicing, what about when moving from higher rate to additional tax rate, still applies?

Correct. Top slicing relief is not just available to mitigate a higher rate liability arising on a chargeable event gain but is also available to mitigate an additional rate liability.

If a client has self-employed losses, I assume these can be offset against other income when calculating tax on bond gains? So income - losses + bond gain?

Yes, allowable losses (there might be restrictions) would be deducted from that component of trade income in step 2 of the income tax computation. In the order of tax, trading profits would be taxed before bond gains. The client’s accountant would be best placed to answer question about allowable losses to offset against other trading income.

Gains applied to SR first, is there an order or can you apply it to receive most favourable position? because the starting rate can sit on top the PA, yes?

The personal allowance can be offset against any income chosen by the individual in order to provide the best tax outcome (the lowest tax bill). The income which is left is taxed in the statutory order and set against allowances as appropriate.

The general rule of thumb is to deduct the maximum personal allowance from non-savings, non-dividend income first as this component suffers tax at the highest rates and enjoys no 0% bands which may apply to the savings and dividend income; also remember that dividends are taxed at a maximum rate of just 39.35%.

There is no hard and fast rule that covers every scenario but it makes sense to try and use the starting rate for savings income where possible to leave the personal allowance available for other income which would otherwise be taxable.

Can making even a small pension contribution drastically alter the tax on a bond gain? Does a relief at source pension contribution help extend bands?

Pension contributions can be very useful where bond gains sit within the higher or additional rate tax bands. A relief at source contribution extends the basic rate band by the amount of the gross contribution which in turn increase the point at which additional rate becomes payable. Not only does this reduce the higher rate tax due on the bond gain in the main income tax calculation, it can increase the amount of top slicing relief given resulting in a lower overall tax liability.

This article from our Tech Matters site gives an example of how a pension contribution can reduce the tax due on a bond gain. In addition, our Tax Relief Modeller can do the calculations for specific cases and show the tax relief obtained.

TAR: Is UK resident defined as resident for tax purposes or physically present in the UK

UK tax resident for tax purposes based on the UK statutory residence test.

Does a claimant for Universal Credit lose it if they inherit money and place it into a Bond? I understand that investments with life insurance are disregarded.

In the scenario you describe the individual needs to report the inheritance as that is a change in financial circumstances. There is no bond at this point for that money. Any action taken to avoid declaring the inheritance, whether that be using a bond for that purpose or gifting to someone else would, by definition, be deliberate deprivation so the planning would fail.

I touched on this topic in a Money Marketing article in 2022 which you should find helpful.

If you will always be a HRT is onshore bond likely to be more tax efficient on withdrawals than an offshore? Also is it possible to assign with offshore bonds?

Yes, we believe that would generally be the case when the underlying investments are multi-asset funds. This is because while invested in the onshore environment dividends returns are exempt. When the fund makes a capital gain on certain long term assets, then indexation allowance may apply up to December 2017, which strips out inflationary aspects of the gain. The combination of dividends being exempt and indexation allowances helps drive down the effective rate below 20%, but nevertheless the investor still gets a 20% tax credit. On the flip side, offshore bonds don’t suffer tax during the investment journey, except circumstances where unrecoverable withholding tax is paid. While this does mean an offshore bond should achieve a higher gross return than an onshore bond if the investments held are on a like for like basis, the full offshore gain will be subject to tax to tax at the investors marginal rate i.e. no tax credit.

You can use our Tax Wrapper Comparison Tool to help you with this analysis.

With regards to assignments, it is possible to assign onshore and offshore bonds in full, or individual bond segments.

Can individuals who are both trustees and beneficiaries of a discretionary loan trust benefit from top slice relief?

It depends on the circumstances.

On the assumption there is an intention to distribute trust capital to the beneficiaries, if the trustees trigger the gain then it depends on who is liable. For example, if the Settlor is still alive and UK resident the gain will be assessed against the Settlor, not the trust beneficiaries. The Settlor could benefit from top-slicing depending on their circumstances. If the Settlor is dead and died in a previous tax year, if the trustees trigger the gain it would be assessed at the trust rate (45%). No top-slicing applies where the trustees are assessed on a gain.  

If the plan is for the gain to be assessed against beneficiaries the trustees would need to assign segments of the bond to each beneficiary individually. Each beneficiary can then surrender their segments afterwards. The gain would be assessed against them at their marginal rate however top-slicing relief could help to mitigate higher or additional rate tax.  

What is the top slicing situation if it’s a disabled trust and how would taxation be applied?

Where a trust has a vulnerable beneficiary and the trustees have made a vulnerable person’s election, the trustees are entitled to a deduction of tax against the amount they would otherwise pay.

This is calculated as follows:

• The trustees calculate their income tax liability on the ‘normal’ basis (this varies according to which type of trust it is).

• They then calculate the income tax the vulnerable beneficiary would have had to pay if the trust income had been paid directly to them an individual. In the case of a bond gain, this simply means assessing the gain against that beneficiary which means the normal top-slicing rules apply when assessing the gain against that beneficiary.

• The trustees then claim the difference between these two figures [i.e. (a) - (b)] as a deduction from their own income tax liability.

Vulnerable Persons -  Disc Trust, potential beneficiary is vulnerable can gain benefit for the tax advantage?

A trust drafted for the benefit of a disabled person to meet the conditions of a qualifying disabled persons trust will be discretionary in nature and the trustees can make a vulnerable person’s election to obtain the special income tax treatment.

However, you also need to differentiate from a standard discretionary trust where one of the potential beneficiaries from the discretionary class is a disabled person. Although the intention might be to use the trust fund for a disabled person, the fact one of the potential beneficiaries is a disabled person doesn’t necessarily make it a qualifying disabled persons trust and allow the trustee to make a vulnerable persons election. The terms of the trust would need to be understood and might need to be varied (if allowable) to make it a qualifying disabled persons trust.

Also Vulnerable Person benefit conditional on attaining 25 (minor currently) would Vulnerable Person benefit be available? Beneficiary is currently aged 11 both parents deceased. Bond held now so looking at a trustee surrender whilst under 18.

What you appear to be describing is an 18-25 Trust which can be created by a late parents will for a minor beneficiary or a statutory trust if the parent died intestate. As the beneficiary is currently under 18 the trustees could make a vulnerable person's election. That would mean the trustees could get a deduction by recalculating the tax based on the position of the vulnerable beneficiary (as explained a couple of questions above).

If a client has a DGT held in a discretionary trust, if the bond is encashed in the same tax year as the settlor dies who does the gain fall on?

If the settlor is alive and UK resident in the tax year the gain arises (even if they died prior to the gain) then they will be assessed on the gain personally. The settlor can make use of top slicing relief to mitigate any higher or additional rate tax. If there is a tax liability on the settlor due to the bond gain this should reclaim this from the trust otherwise they are making a gift for IHT purposes.

In relation to a Disc trust I read that if the settlor is alive when the bond is surrendered the chargeable gain will be assessed on their income?

If the settlor is alive AND UK resident in the tax year the gain arises then they will be assessed on the gain personally. The settlor can make use of top slicing relief to mitigate any higher or additional rate tax. If there is a tax liability on the settlor due to the bond gain they should reclaim this from the trust otherwise they are making a gift for IHT purposes.

Please see section 4 of our Important information about trusts guide for further information.

I thought tax paid actually paid by trustees could be reclaimed via tax pool (only the additional 25% for onshore; cannot reclaim 20% tax paid within bond)?

You are thinking about trust “income” e.g. investment income from an OEIC would be trust income. Bonds are non-income producing investments and while bond gains are subject to income tax, the payment of withdrawals from a bond to a trust beneficiary are deemed to be a distribution of trust capital, not trust income.

It is not possible for the beneficiary to reclaim any trustee tax paid in respect of investment bond gains. Trustees can make use of the tax deferred allowance to help plan around this and if the trustee rate was going to apply to a withdrawal where the intention was to distribute to a trust beneficiary, an assignment/appointment of segments to a beneficiary should be considered.

Can a bond held in trust be assigned to a beneficiary and then top slice be used?

Yes. The assignee who receives the bond can use top slicing for any gains that arise after the assignment. The number of years used “N”, is based on the policy history rather than the assignee’s period of ownership so for example if they were to fully encash the bond, “N” would be the full number of years since the policy was set up.