WillsInheritance Tax on Will Trusts: An Overview

There are a number of types of trusts that can be created by will, and all have different inheritance Tax (IHT) implications that need to be considered. This article provides a brief overview of how IHT is charged on different types of will trusts, including qualifying interest in possession trusts, relevant property trusts, bereaved minor’s trusts, bereaved young persons trusts, bare trusts and charitable trusts.

Relevant Property Trusts

Relevant property trusts are trusts that are subject to the relevant property regime. These include discretionary trusts and all other types of trusts that do not fall into any of the other categories detailed in this article.

The trust capital of a relevant property trust is not considered as owned by the beneficiaries of that trust and for IHT purposes is considered as held by the trust. This can have advantages for IHT purposes as it keeps trust capital out of the beneficiaries’ estates and does not increase any IHT liability they may have, however these trusts are subject to periodic IHT charges known as anniversary and exit charges.

An exit charge is a charge that applies when trust capital ceases to be relevant property. This generally applies when the trustees distribute capital to beneficiaries, but it could apply in other circumstances where assets are retained in trust but cease to be relevant property.

An anniversary charge, also known as a principal charge, is a charge that applies to the trust capital on every 10-year anniversary.

The calculations that apply are complex. Effectively what each of them do is consider a tax charge of 20% to either the value of the exit or value of the trust fund respectively, and then reduce that 20% by several factors to come up with a smaller percentage. For an exit charge, this includes reducing it depending on the number of quarters that have passed since creation of the trust or last 10-year anniversary. That smaller percentage is then applied to the value of the exit or full value of the trust fund respectively. As a general rule, every 10 years the combined value of exit charges and anniversary charges will be no more than 6% of what is above the available NRB.

If the trust fund is below the available NRB, generally there will be no anniversary or exit charges.

Qualifying Interest in Possession Trusts

A qualifying interest in possession (QIIP) is a trust where the beneficiary of that is considered as inheriting for inheritance tax purposes. A QIIP will mostly take the form of a trust where the beneficiary is entitled to income, with some exceptions.

Since 22 March 2006, the only QIIP trusts that can be created are:

• an immediate post-death interest (IPDI), this covers most types of life interest trusts created by will;
• a disabled person’s trust; or
• a transitional serial interest.

Transitional serial interests are rare, with IPDIs and disabled person’s trusts being more common.

For IHT purposes, when the testator dies the beneficiary of the QIIP will be considered as inheriting. When they die, the value of the trust assets is included in their estate for IHT purposes. There are no ongoing inheritance tax charges whilst the beneficiary is alive.

Bereaved Minor’s Trusts

A bereaved minors trust is set up for a minor who has lost at least one parent and is created by the parent’s will.

The following IHT implications will apply:

• There is no IHT charge when the minor becomes entitled to capital (usually when they reach 18)
• There is no IHT charge if the minor dies before becoming entitled
• There are anniversary or exit charges.

Bereaved Young Person’s Trusts

A bereaved young person’s trust, also known as an 18 to 25 trust, is similar to a bereaved minors trust but extends the age at which the beneficiary becomes fully entitled to the assets to no higher than 25.

The following IHT implications will apply:

• There is no IHT charge if the beneficiary becomes entitled at 18 or earlier or dies before reaching 18, or if the trustees advance assets for the beneficiary’s benefit at or under 18
• There is no IHT charge if the trust becomes a bereaved minors trust, or if the trustees transfer assets in the first quarter following the beneficiary reaching 18 or the trust beginning.
• There is an exit charge when assets leave the trust in all other circumstances. The exit charge is calculated depending on the number of full quarters that have elapsed since the beneficiary reached 18 or when the trust was created if later. The maximum rate of charge is 4.2%.
• There will be no anniversary charges.

Bare Trusts

In a bare trust, the beneficiary has an absolute right to both the income and the capital of the trust. The most common type of bare trust created by will would be where a minor beneficiary is given a gift with no conditions, in which case the trustees would need to hold on a bare trust until the minor reaches 18 and can hold the inheritance in their own name.

For IHT purposes, the assets in a bare trust are treated as part of the beneficiary’s estate. If the beneficiary dies, the trust fund is taxed as part of their estate.

There are no anniversary or exit charges.

Charitable Trusts

Charitable trusts are set up to benefit charities or charitable purposes. Gifts to charitable trusts are generally exempt from IHT which can provide significant tax advantages.

Conclusion

Understanding how IHT is charged on different types of will trusts is crucial for effective estate planning. Each type of trust has its own IHT implications, and it is important to consider these when setting up a trust in a will.

 

If you have subscribed to our Quiz Membership 2024, please find this article’s quiz here. You must be signed into the partner area of our website to access this.

 

Photo by Sarah Agnew on Unsplash