Bare trust - taxation of bank account interest

Who is taxable on bank account interest after funds withdrawn from bare trust investment portfolio

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A bare trust is being created by a client's father (i.e. the grandfather) gifting an amount into an investment portfolio for the benefit of his grandchildren.  The parents will be the trustees.  The portfolio will generate income and gains, taxable on the beneficiaries (i.e. the children), and used to pay school fees.  The income generated will be withdrawn periodically into a savings account, topped up by the parents, and then paid onto the school.  Is the interest on that bank account (which won't be huge but will exist) taxed on the parents, or does it somehow need to be split between the parents and the children?  Another way of putting it is is the income generated by the investment portfolio still a trust asset once it's withdrawn from that investment portfolio?

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By Tax Dragon
29th Oct 2019 12:50

I don't know why HMRC doesn't take this kind of planning to the cleaners.

School fees are a parent's liability, not the child's. Using your child's money to discharge your obligations ought to be challenged.

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Replying to Tax Dragon:
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By unearned luck
30th Oct 2019 00:43

My guess is that this is a bog standard discretionary trust, not a bare trust.

But even if I'm wrong, I don't understand your beef. The money is really the grandfather's gifted, almost certainly, for the purpose of paying the school fees. If he didn't want the money spent of school fees, he could say so in the deed or in the letter of wishes or appoint himself or others as trustees rather than what you consider to be unethical parents.

Turning to the question:

If the savings account belongs to the trust then the interest is trust income. Don't mix trust money with parents' money as you will then have a settlor interested trust. Once income has been distributed (or given as right if an IIP) it ceases to be trust money and from a tax point of view it and any income belongs to the recipient.

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Replying to unearned luck:
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By Tax Dragon
30th Oct 2019 04:15

You're very likely to be right regarding the nature of the trust. If so, as you know, the income is initially taxable on the trustees not, as stated in the OP, on the children.

If the trust really is bare, though, then the money is the children's. It's not up to granddad to spend their money either, even if it he gave it in the first place. Bear in mind that the contract under which the fees are payable is between the school and the parent(s).

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Replying to Tax Dragon:
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By Justin Bryant
30th Oct 2019 10:07

TD, you really should consider refraining from posting highly critical comments unless you are 100% sure of what you are talking about. This is plain vanilla tax planning (usually done with an IIP trust, but a bare trust is fine in this case). Do a search here (or Google generally) if you don't believe me.

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Replying to Justin Bryant:
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By Tax Dragon
30th Oct 2019 13:28

Whom have I criticised?

Something being commonplace (which is what I suspect you mean by "plain vanilla" in this circumstance) doesn't make it right. What part of what I have said is (f)actually incorrect?

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By Tax Dragon
31st Oct 2019 10:56

Resurrecting this thread because no-one answered the OP. Although the untouchable we know as Justin intervened, this (as is typical) was to have a pop at someone and (as is typical) did not answer the question.... or indeed any question that was asked directly at him.

The discussion at https://www.taxationweb.co.uk/forum/grandparents-paying-school-fees-from... was about the very point I was making. Rightly or wrongly, one of the contributors there suggests that, if one is using a bare trust, the money should be transferred to the parents before being paid, under their contact with the school, to the school. Following that advice would lead to an easy answer to the question.

Mock me all you like, JB, but I can foresee a case where a child grows up to be a smart-alec lawyer (aren't they all?), falls out with parents, gets disowned [or disowns them] and sues them for using his (her, etc) funds to meet their liabilities. With the ever-increasingly litigious society we have become, it might happen sooner than I think.

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Replying to Tax Dragon:
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By unearned luck
03rd Nov 2019 22:06

I thought I had answered the question. I stand corrected.

Before Gordon Brown's 2006 changes to the UHT trust rules, a common type of trust was the A&M Settlement. The 'm' stood for maintenance, ie the trustees could pay for things that are normally the parents' responsibly. So what's your beef?

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Replying to unearned luck:
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By Tax Dragon
03rd Nov 2019 23:53

We're told it's a bare trust. Why does it matter what M might once have stood for?

Never mind my beef - what's your point?

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By AB_85
01st Nov 2019 19:23

My 2 cents

To the extent that the funds arose from the bare trust I believe the interest there on is taxable on the children. To the extent that it arises from the funds contributed by the parents I think it is taxed on them. The link to the taxationweb forum infers otherwise. I’m not convinced. To be honest I really doubt it is worth worrying over unduly. Presumably this is a holding account where monies are transferred for a short time pending payment of fees. The tax on the interest arising would surely be de minimus. If the bank statement is in the parent’s name it may be best to put it on their return to avoid the cost of dealing with the enquiry that arises when their return doesn’t match the information received from the bank.

As to whether the parents are entitled to use funds held on bare trust to pay school fees, I think that is a question of the rights and responsibilities of the trustees and I don’t think it directly impacts on the tax position. So I don’t think it is susceptible to attack from HMRC.

I have some sympathy with TD’s position in that I agree the contract is between the parents and the school. However I think the legal position is that trustees of a bare trust for minors have duties over and above those of a simple nominee, and these duties entitle them to apply the capital in their best judgement for the benefit of the minors, which surely includes the payment of school fees. It does also benefit the parents in this case - as I say, I do understand the objection - but I really doubt the children would have any success in bringing a claim against them.

Also wanted to note I have seen practical problems to this sort of planning from 2 angles.

If all of the capital is applied for school fees, we are not talking about mega sums for even the most expensive education. The income tax and CGT savings would be really quite modest. This should be set against the time and costs involved in setting up such a structure and administering it - legal fees, declaration of trust, stockbroker fees. For the sake of a few hundred pounds tax per year it could be a bit of a palaver, compared to the simpler alternative of gifting the money to the parents for them to pay school fees.

If on the other hand only part of the capital is earmarked for school fees, the tax savings are more substantial. But in such cases the grandparents need to be quite clear of the implications for the unspent capital on the children’s 18th birthday. They would be walking into a substantial nest egg and are entitled to spend every penny of it on beer.

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By penelope pitstop
03rd Nov 2019 23:24

Income from funds from grandparents are always taxed on the grandchildren, whatever their age.

Income from funds from parents taxed on parents during minority, subject to the £100 limit per parent, per child. Income over that limit taxed on the parent in its entirety. Income at the £100 limit or less taxed on the grandchild.

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