Many people use Discretionary Trusts to control and protect family assets as they are particularly flexible.
However, in March 2006, the Inheritance Tax (IHT) treatment of these Trusts changed significantly, with the introduction of the ‘relevant property’ rules. Now, 10 years on, Trustees of some of these Trusts created under the new regime will be facing their first periodic anniversary - and may need to take professional advice.
‘Relevant property’, which is any asset held in a Discretionary Trust, does not form part of the beneficiary’s estate. Instead, an IHT charge can apply at each 10 yearly anniversary of the date of Trust’s creation – as well as when capital is paid out from the Trust.
The tax rate is calculated using a standard formula with a maximum charge of 6% on the value of ‘relevant property’ within the Trust. The calculations can be complex.
For example, where applicable, Business Property Relief and Agricultural Relief are deducted before applying the tax charge and the resulting taxable value is then reduced by the Nil Rate Band in force at the 10 year anniversary, less any chargeable lifetime transfers made by the Settlor (who established the Trust) in the 7 years before the Trust was set up. Any distributions made by the Trustees prior to the 10 year anniversary are also deducted.
Trustees may be required to submit an IHT 100 account to HMRC at a 10 year anniversary or when distributing capital from a Trust. In fact it is possible that an IHT 100 account will need to be filed with HMRC even if no IHT is actually payable.
Trustees may be unaware of the specific obligations that apply to the administration of these ‘relevant property Trusts’ and how to avoid falling foul of HMRC’s requirements.
The rules around Discretionary Trusts can certainly be confusing and the calculations complex. We are regularly asked to advise on and calculate the 10 year charge as it is an area where many professional lawyers are not experienced; we are also engaged to submit the IHT return at the same time.
If you are a Trustee and need professional advice on what you need to do, please contact Delia Orme on 01483 533119.