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Note: these answers are based on a preliminary reading of the Bill. They are intended only as general guidance. For detailed advice please make contact in the usual way.
Q1. Does the Finance Bill 2006 affect me? A1. It may well do, if any of the following apply and if the Budget Proposals become law without significant change. So if
1. You have made a Will that sets up ongoing trusts; or
2. You have set up a trust for family and/or friends (but not charities);
You should read on.
Q2. What kind of provision is not affected at all?
A2. In a word, absolute gifts. A simple gift in a Will of money to a child, where the child gets the capital as well as any income on or before his 18th birthday, is unaffected. A gift in trust to a surviving spouse, where nothing can interfere with the interest of that spouse (except his or her consent, or where the spouse becomes entitled to capital as well as income) is taxed as before.
Q3. But surely, a gift of a life interest to a spouse or civil partner, domiciled in the UK, is still tax free?
A3. No, not necessarily. If the trust is subject to what are commonly called “overriding powers”, it is no longer regarded as belonging to the spouse or civil partner and is instead treated as property in a discretionary trust. Strangely, the spouse relief is also denied where, on the death of the spouse, the further interests do not vest absolutely at age 18. The other side of the coin is that on the death of the spouse or civil partner, there will be no IHT charge on the fund. Instead there will be a charge every ten years – at up to 6% - and a charge when property is released to a beneficiary. The total tax bill could, in theory, be lower.
Q4. Discretionary trusts sound expensive to me. Are there extra forms to fill in?
A4. Yes: and yes and no. The IHT regime for discretionary trusts is less well known, even among lawyers, than the “normal” IHT regime. All trusts involve the completion of annual tax returns, but it is fair to assume that the returns for discretionary trusts will be slightly more complicated – and therefore more expensive – than those for interest in possession trusts. On top of that, the release of money from a discretionary trust triggers completion of form IHT100. That form must also be completed every ten years. So discretionary trusts will normally cost more to run than other trusts.
Q5. My Will provides a gift of the nil-rate band to my children, with the residue passing to my husband. There is provision for him to satisfy the gift to the children by an IOU. Must I now remake that Will?
A5. Probably not, but it will depend on the precise terms. What does the Will provide, if your husband fails to survive you: does residue pass to your children? If so, at what age do they get capital? If they get it at 18, and if the gift to your husband is a simple, absolute gift, your Will is probably unaffected. On the other hand, if there are any “overriding powers” ~ see Answer 3 ~ you should revise your Will. Also, if the age at which your children get capital is greater than 18 than as the proposals stand, you must reconsider your Will because the spouse exemption for IHT may not be available.
Q6. But I’ve only just signed my Will! Must I take action immediately?
A6. That will depend on your state of health. If you are in good health, you should do nothing for the time being. Representations are being made to Parliament that the Budget proposals go further than is necessary to achieve certain policy objectives. There is just a chance, if people lobby their MP, that the legislation may be improved so that it is better targeted. If you are not in good health then you ought to review your Will.
Q7. Why can’t I just leave things as they are? Can’t I let my family vary the Will by deed after I’m gone?
A7. A deed of variation can be very useful, but everyone who is affected has to agree ~ and children cannot agree because they are too young to sign. Also, the tax rules are quite strict: a deed of variation does not work for tax purposes if all it does is to remove “overriding powers”. The deed must actually change the inheritance, i.e. who gets what.
Q8. But aren’t there some transitional rules to help?
A8. Yes, up to a point. If the trusts can be varied before April 2008 it may be possible to avoid the complex IHT regime for discretionary trusts. However, in some cases there may simply not be power in the trust deed: that may not be a problem if all the beneficiaries are adults (and capable of making a decision); but in some cases it will be necessary to apply to the Court for approval. Although the case will not normally be contested, it will still cost a good (or bad!) deal in fees.
Q9. I’ve heard about “vulnerable” beneficiaries and there seem to be special rules. Is that right?
A9. Yes. A child under 18 who has lost a parent is treated better under the new rules. There is some provision for a person receiving Attendance Allowance or Disability Living Allowance. However, a young person ~ such as a student away from home for the first time ~ is not considered to be vulnerable. There is no proper provision under the new rules for the young person who is inexperienced in money matters. The only ay to protect them, from themselves and others, now involves significant extra trouble and cost, even if in the end there is no extra tax to pay.
Q10. When we were younger there was a family “accumulation and maintenance” trust. It was all quite simple and enabled our children to go on school trips etc. that they might otherwise have missed out on. Can we still do that for our grandchildren?
A10. You can, but it will be taxed as a discretionary trust. If you have made no previous settled gifts, and you each settle less than the nil-rate band, currently £285,000, and if you make sure that all the money is paid out within 10 years, IHT will not be a problem. If any money is still in the trust after 10 years, you must comply with the IHT regime.
Q11. So if I’ve already set up an accumulation and maintenance trust, am I OK?
A11. Yes and no. If any beneficiary of your trust is already entitled to income - which may because he or she is over 18 – that person is not prejudiced. Any beneficiary who is not yet entitled to income, and who will not be sure to get capital at 18, comes under the new rules.
Q12. You mean an older grandchild may be better off, in tax terms, than a younger one?
A12. Yes. I’m afraid so. It seems unfair but there is nothing in the legislation to help this situation. In a small trust the problem is not acute, but costs and fees will be an issue.
Q13. Can anything be done to stop all this?
A13. Maybe. The proposals are not yet law. You could write to your MP. It is likely that between one and two million families are affected, and these are ordinary hardworking folk who pay income tax each year. With slight changes, the legislation could be more precise – targeted, if you like, at those who have significant wealth whilst leaving alone those whose estates consist of, say, a house, a pension fund and some savings. But that is a political issue and this note is intended to be a preliminary guide to what the law will be, if not changed by debate in Parliament.
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