Tag Archives: IHT

Helen O’Hagan, Financial Planning Week tip: Multiple trust planning

When your client creates a discretionary trust it will have its own IHT nil rate band (NRB) which will be used throughout the lifetime of the trust. This is used to calculate the 10 yearly charge commonly called the periodic charge.

The available NRB is calculated at the creation of the trust by looking back seven years and adding up any previous chargeable lifetime transfers (CLTs) that the client made before this new one. These are deducted from the NRB available at the 10 year point. This means that, the NRB for the client’s new trust is the NRB at year 10 less those previous CLT’s.

Tax saving

By creating several trusts over several days your clients are able to take advantage of multiple NRBs, as shown in the following example:

Agnes has just started her IHT planning and this is her first set of gifts. She creates three discretionary gift trusts as follows:

 DateValue of CLT
Trust 1August£150,000
Trust 2September£100,000
Trust 3October£75,000

When the time comes for the calculation of the periodic charge, Agnes’ trusts will have the following nil rate bands to use at the 10 year point:

NRB for periodic chargeLess value of previous CLT
Trust 1NRB at 10 year point£0
Trust 2NRB at 10 year point-£150,000
Trust 3NRB at 10 year point-£250,000

Let us assume the trust funds grow as follows:

 Value of fund at 10 year point
Trust 1£300,000
Trust 2£200,000
Trust 3£150,000

And if the NRB increases to £375,000 at the 10 year point, the periodic charge for Agnes’ trusts will be as follows:

 NRB for trustValue of trustTaxable at 6%
Trust 1£375,000£300,000£0
Trust 2£375,000 – £150,000 = £225,000£200,000£0
Trust 3£375,000 – £150,000 – £100,000 = £125,000£150,000£25,000 x 6% = £1,500

Trust 1 has the full NRB to use at the 10 year point, and, as the value of the trust fund is below this, there is no tax to pay.

Trust 2 has the NRB at the 10 year point less the previous CLT of £150,000, which gives £225,000 of NRB to use against the trust, and, again, as the value of the trust fund is below this, there is no tax to pay.

Trust 3 has the NRB at the 10 year point less the two previous CLTs of £150,000 and £100,000, which gives £125,000 of NRB to use. However, as the trust fund is £150,000, which exceeds this by £25,000, this results in a tax charge of £1,500.

If we compare this with the position if Agnes had just set up 1 discretionary trust the calculation of the periodic charge would be:

 NRB for trustValue of trustTaxable at 6%
Trust 1£375,000£650,000£275,000 x 6% = £16,500

As you can see, creating multiple trusts for your clients can make tax savings for them at the 10 year anniversary for the calculation of the periodic charge.

Beware of the related settlements rules

Under the statutory definition of “related settlements”, contained in section 62 Inheritance Tax Act 1984, related settlements are treated as a single settlement and so would not each have a separate NRB.

For two or more trusts to be related settlements, the settlor must be the same in each case and the trusts must have commenced on the same day.

Make sure when setting up multiple trusts for clients that they are set up on different days and the investment bonds start on different days.

Same day additions

There were anti avoidance measures introduced, which created a new section 62A, which states that trusts will be treated as related if  the value of property in each  trust is increased by a transfer of value on the same day, for example, if assets are added to them on the same day.

When using multiple trusts, your clients ought to set them up on separate dates and ensure that funds transferred into the trusts are paid on different days, on set up and when topping up the trust.

Planning

Don’t forget that, if you are setting up loan trusts and gift trusts for your clients at the same time, there is no transfer of value under a loan trust, so set this up first. This will potentially give the client 100% of the NRB for the loan trust and also 100% of the NRB for the gift trust to use at the periodic charge point.

If your clients are using loan trusts in their IHT planning consideration should be given to setting up multiple smaller trusts. This will not only help with the periodic charge point giving multiple NRBs to use, it also gives the client flexibility when it comes to waiving the loans. Under certain provider’s loan plans you can only waive all of the loan. There is no facility to waive part of the loan. If you have multiple smaller plans it gives clients the ability to waive each loan at different times, keeping some if needed for future use.

One last point to note is that, with the extension of the Trust Registration Service, each of the trusts will have to be separately registered with HMRC.

Marcia Banner, Financial Planning Week tip: IHT planning ahead of the Budget

The latest inheritance tax (IHT) Statistics, published by HMRC in July, show that despite the relatively recent introduction of the residence nil rate band, IHT receipts received by HMRC during the tax year 2020/21 were £5.4 billion – an increase of 4% (£190 million) on the tax year 2019/20. With the nil rate band and residence nil rate band frozen at current levels until at least 5 April 2026, and house prices and asset values continuing to rise, it is likely that this represents the beginning of an upward trend in the annual IHT take.

While no significant IHT reforms are expected in the impending Budget, it is always worth making use of currently available IHT strategies prior to Budget Day where possible, so as to pre-empt any measures that are introduced unexpectedly and with immediate effect. With this in mind, in this article we will consider a simple six-step strategy that clients with estates in excess of the nil rate band should follow in order to mitigate the effects of IHT on their estates and maximise the amount that passes to their heirs upon their death:

  1. Tax-efficient Wills – The first step in any estate planning strategy should be to ensure that clients have tax-efficient Wills in place and that these are reviewed regularly to take account of legislative as well as circumstantial changes. For example, a Will drafted prior to 2016 is unlikely to include provisions that take account of the effect on the residence nil rate band of leaving the home otherwise than to children or grandchildren outright. Recommending that clients review and update their Wills not only helps you develop relationships with fellow professionals; it also can save the clients significant amounts of IHT thereby enhancing your own professional credibility. Many clients with joint estates that are above or approaching £2m do not, for example, recognise the potential benefit of leaving an amount up to the nil rate band to a trust on first death – yet this will reduce the amount passing to the surviving spouse or civil partner and help to keep the joint estate on second death down to below the £2m figure above which valuable residence nil rate band starts to be lost. Married clients and clients in a civil partnership with business assets that are likely to be sold after death, as well as those who have previously been widowed, can also make significant IHT-savings by leaving business assets and/or nil rate sums to a trust on first death – and, of course, Will trusts present opportunities for trustee investment business and further IHT planning following the client’s death.
  2. Deeds of variation – where a client receives an inheritance that creates or aggravates an existing IHT problem, deeds of variation offer a solution that is superior to any other form of planning. Usually where a substantial gift is made, the gift will constitute a potentially exempt transfer (PET), if made outright, or a chargeable lifetime transfer, if made to a trust, that must be survived by seven years for an IHT benefit to be obtained. In addition, it is not possible (unless a sophisticated packaged scheme is used – please see 5. below) for the donor or settlor to retain any benefit in the gifted sum or asset without this being a ‘gift with reservation’. If, however, property or funds that derive from an inheritance are gifted within two years of the death, the gift is treated for IHT purposes as if it had been made by the deceased. This means that not only is the donor’s estate reduced immediately by the full amount of the gift (i.e. no requirement for the donor to survive seven years); if the gift is made to a trust, the donor/settlor can be included as a possible beneficiary – and so retain full access to the inheritance – without any gift with reservation issues. The planning opportunity will be lost once the two-year period has expired though – so it is vital to act quickly to identify appropriate clients and implement the planning without delay. This will be especially important with Budget Day looming given the ever-present speculation that deeds of variation may be ‘abolished’ at some point.
  3. Maximise use of IHT exemptions – there are a number of exemptions from IHT that enable gifts, that leave the estate immediately, to be made without them impacting on other planning. The most well-known of these are the annual exemption of £3,000; and the normal expenditure out of income exemption which allows an individual to regularly give away surplus earned or investment income without restriction provided that certain conditions are satisfied. This second exemption is particularly valuable as there is no cap on how much can be given and the amounts gifted can vary from year to year as long as some sort of pattern can be demonstrated. This could, for example, be something as simple as the client resolving to give away “a third of my rental income each year” or “the annual dividend income paid on my shares in XYZCo Ltd”. Alternatively, the pattern could be linked to regularly occurring events such as grandchildren’s birthdays or payment of school fees or life insurance premiums. It is, however, important that the donor does not have to resort to capital (such as withdrawals from an investment bond) to maintain their standard of living having given away income, otherwise the exemption will be denied and the gifts will be treated as PETs or chargeable transfers as appropriate. An impending Budget is an ideal time to review clients’ financial affairs to ensure that all available exemptions have been used to avoid losing out if modifications to exemptions are made from Budget Day.
  4. Make outright gifts or gifts to trusts – gifts that do not fall within one of the exemptions from IHT will be either potentially exempt or chargeable depending on whether they are made directly to another individual or via a trust. Either way, for a gift to be treated as made ‘outright’ it will be necessary for the client to be able to comfortably afford to make the gift in the knowledge that he or she will not be able to access the gifted funds if circumstances change. Where a gift is made directly to another individual (or via an absolute trust) it will be a PET. PETs leave the estate after seven years and will never give rise to an immediate liability to IHT when made, whatever the value. They can, however, impact on the nil rate band available to the estate as well as the nil rate band available to any later created trust if not survived by seven years.

Clients who are happy to give up access to some of their wealth but are not comfortable about giving their intended beneficiaries unfettered access to large funds, may prefer to make gifts via a discretionary trust. Again, the gifted amount will be fully outside the estate after seven years. However, unlike with a PET, there could be an immediate liability to IHT at the lifetime (20%) rate if the amount gifted exceeds the settlor’s available nil rate band. In addition, discretionary trusts will be subject to the ‘relevant property regime’ of IHT ten-yearly (periodic) and exit charges. Although such charges are unlikely to apply to smaller trust funds, it is vital to seek tax guidance before setting up discretionary trusts to ensure that full account is taken of other planning (such as earlier chargeable transfers or even PETs) that could impact on the likelihood and size of charges going forward. With proper advice, measures can be taken that will help to mitigate or even avoid these charges while ensuring that the client’s overriding objectives for control are met. Of course, mitigation techniques (such as multiple trust planning) are always at risk of HMRC attack and this is therefore another area where it may be prudent to try to establish arrangements prior to Budget Day.

  1. Consider packaged schemes for IHT and income tax-efficient access – where clients are unable or reluctant to make outright gifts to trust or otherwise due to a (potential) need for access to their investments, there are a number of life-insurance based schemes that are based on established IHT principles which are acceptable to HMRC . The most popular examples of these are the Loan Trust and the Discounted Gift Trust.

Generally speaking, the Loan Trust is most suitable for clients who are looking for flexible ad-hoc access to their original capital in return for moderate IHT rewards: the investment amount will initially be frozen at its original value for IHT purposes but will reduce to the extent that loan repayments are taken and spent during lifetime; while the Discounted Gift Trust provides the settlor with regular cash payments at a fixed, pre-determined level with no ad-hoc access to the rest of the investment in return for an immediate reduction in the estate for IHT, with the entire investment IHT-free after seven years.

Again, while there is no suggestion that either of these schemes will be targeted by Budget Day measures, it won’t hurt clients who are considering implementing packaged IHT-schemes to do so before Budget Day as a precautionary measure.

  1. Consider whole of life insurance to fund any residual liability – once you have worked your way through the above five steps in the strategy and either implemented or discounted taking action at each stage, clients facing an IHT liability upon their death may wish to consider funding for any residual liability with life insurance. Depending on the client’s age and state of health, a life insurance plan written in trust can provide a cost-effective solution to an IHT-problem where there is no opportunity to reduce the estate – perhaps because it is largely tied up in property or other assets standing at a significant capital gain. Premium payments will be treated as gifts to the trust but if these can be funded out of surplus income, these will usually fall within the normal expenditure out of income exemption for IHT meaning that they will leave the estate immediately and not impact on any other planning.

Summary

In summary, this simple six-step strategy will serve as a useful IHT mitigation tool regardless of whether or not a Budget is impending. However, like all forms of tax planning, IHT mitigation techniques that work in the present are vulnerable to legislative change and a looming Budget is therefore a good opportunity to spur clients into action and implement any planning that is being considered before it’s too late.

Inheritance Tax receipts and potential reform

The latest HMRC figures for IHT yield and thoughts on the potential for reform and opportunities to effectively communicate with clients.

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Budget 2021 – Inheritance Tax & Property Related Changes

An overview of the Budget announcements that may be of interest to property investors and those affected or potentially affected by IHT.

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All Asset Intergenerational Estate Planning

How to effectively take an “all asset “ approach to intergenerational estate planning.

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All Asset Estate Planning

The importance of taking an “all asset” approach to holistic estate and intergenerational planning.

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Gifting Low Value Assets

Opportunities for lifetime IHT planning with low value assets
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Overview of the Key Inheritance Tax Exemptions

A summary of some of the main inheritance tax exemptions that an individual could take advantage of.

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IHT Simplification – The OTS Review

The first part of the OTS report on IHT simplification and it’s possible implications for the future of IHT administration.

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DOTAS and IHT – Examples of what’s not caught

HMRC have given examples of what arrangements will not be treated as abnormal or contrived for the new DOTAS IHT Hallmark- good news for financial planners.

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