Trusts in Capital Gains Tax Planning

Trusts are routinely used in helping individuals manage wealth and mitigate certain tax liabilities, including for capital gains. There are many pitfalls however in what is a relatively complicated and difficult-to-understand subject area, and so professional help and advice is essential.

Trust Categories
Finance Act 2006 introduced a new Trust regime that brought about a great many changes. Existing Interest in Possession Trusts are ring-fenced if established before 22nd March 2006, but a contribution to one of these under the new regime will now be treated as a chargeable lifetime transfer (CLT) instead of a potentially exempt transfer (PET) as before (meaning that there may now be an immediate IHT charge to pay).

Existing Accumulation and Maintenance Trusts established before 22nd March 2006 are not ring-fenced, and fall within the new regime from 6th April 2008. Several new Trust categories were also created but discretionary Trusts continue, largely unaffected.

Possible Applications
A Trust may be used to defer incurring a CGT charge when an individual is holding capital assets (e.g. quoted or unquoted company shares) that have gained significantly in value since the time they were purchased. In such cases, using a Trust may allow holdover relief claims under s260 TCGA 1992 to be made so that the capital gains tax (CGT) charge is not crystallised on transfer, and instead deferred.

Additionally, by making use of an individual’s nil-rate inheritance tax (IHT) band, any subsequent gain in asset value while they are in Trust should be sheltered. Note that this arrangement is not generally suitable for land and property (e.g. in relation to gains in the value of a buy-to-let house).

Worked Example
An individual that has made no chargeable transfers to date, has owned some shares in a quoted plc for a number of years that cost £75k. If sold today, and assuming a gain of say £225k, the individual would be liable to incur a CGT charge of just over £40k, payable now. If the individual dies while still holding these shares incidentally, the IHT bill may be as high as £120k, or maybe higher if their value has increased by then.

If the individual decides to make an outright gift of these shares to an adult son (to perhaps avoid the IHT), the transaction would rank as a PET and, provided that the individual survived the gift by at least seven years, it would be ignored. Unfortunately however, holdover relief would not be available, the gift would have to be treated as a deemed disposal and therefore the CGT of around £40k would still be payable.

Alternatively, a non-settlor interested discretionary Trust may be set-up and the quoted shares transferred into it as a settlement. Although this would be a CLT, there will be no IHT, given that the individual’s nil rate band has not been exceeded. Additionally, the gain of £225k could be held over by making a claim under S260 TCGA 1992. Then if say, one year later, the trustees decide to appoint the shares, which are now valued at £380k, to the individual’s son, there will be no IHT to pay because the entry to the trust was zero-rated, and no CGT to pay because a further holdover claim can be made.

It’s a complicated area but the potential downsides for inaction can be quite onerous. If you have any questions on any of the above, please contact us and we will be happy to help in any way that we can.

Tagged as: A&M Trust, Accumulation and Maintenance Trust, Accumulation and Maintenance Trusts, Capital Gains Tax, CGT, Chargeable Lifetime Transfer, Chargeable Lifetime Transfers, CLT, Deemed Disposal, Discretionary Trust, Discretionary Trusts, Holdover Relief, Holdover Relief Claim, IHT, IIP Trust, IIP Trusts, Inheritance Tax, Interest in Possession Trust, Interest in Possession Trusts, Nil-Rate Band, Nil-Rate Inheritance Tax Band, PET, Potentially Exempt Transfer, Potentially Exempt Transfers, s260 TCGA 1992, Trust Categories, Trust Regime, Trusts