Settlor Interested Trust and income tax

Settlor Interested Trust and income tax

Didn't find your answer?

I have recently taken on acting for a widow who also has a related Trust.

The Trust is Discretionary and was established by a Deed of Variation made in respect of her late Husband's Will.  The Trust appears to have been in place for at least 10 years.  I believe that the Will had previously passed all of the late Husband's assets to my client.  By virtue of the making of the trust, my client is deemed to be the Settlor.  Something which HMRC confirmed - I have a copy of a letter they send advising her of this back in 2003.

The widow is a potential beneficiary of the Trust, so I understand that this means she is effectively treated as being taxable on all of the income arising to the Trust.  However, I understand that the income must first be taxed on the Trustees.  My question is at what rate(s) should the trustees be liable - is it at the Trust Rate(s) due to the fact that this is a discretionary trust, or instead at the basic rate(s), dependent upon the type of income received.

Previous tax returns prepared for the trust have only taxed the income at the basic (10 and 20%) rates.

Many thanks for reading this and any comments you may have.

Replies (5)

Please login or register to join the discussion.

avatar
By LyneT
11th Sep 2012 15:54

The income is taxable as if it had arisen directly directly to the settlor.  ie basic, dividend rate etc.

There is no deduction for the trustees fees.

The point of the legislation is not to make the settlor bear the tax, but to tax the income at the rate of tax as if it had arisen directly to the settlor.

 

Thanks (0)
avatar
By stephenpotter
11th Sep 2012 16:17

Many thanks Lyne,

Could I please clarify therefore that it is correct to tax, say interest, on the trust tax return at 20% and then for the net interest to be disclosed on the Trust page of the beneficiaries tax return?

Many thanks again

Thanks (0)
avatar
By LyneT
11th Sep 2012 16:34

Yes thats right.  Let me know

Yes thats right.  Let me know if you want the references to the legislation and I will dig them out.

Thanks (0)
avatar
By dh
11th Sep 2012 16:53

Disagree

I have to entirely disagree with this, a settlor interested discretionary trust pays tax at the trust rates and it is for the settlor to report this income taxed at the higher rates.

See HMRC trust manual at TSEM3011.

It is for this reason that HMRC introduced the rule that if a settlor received a tax refund due to their trust income, any refund must be repaid to the trustees.

Many people shortcut the system by not taxing the trust at those rate for 'ease' but it is technically incorrect.

Thanks (0)
Galaxian
By Galaxian
11th Sep 2012 17:01

Trust rate applies to the trustees but not the settlor

The discretionary Trustees are liable to tax at the rates applicable to trusts on all trust income (except for the first £1,000, which is at 10/20%).

The settlor will then make an entry on the Trusts supplementary pages of his tax return, showing the trust income deemed to be his. This income retains its character in the hands of the settlor, as if it had arisen to him directly. Therefore he will be treated as receiving non-savings income, interest income or dividend income as appropriate.

The settlor will also have the benefit of a tax credit of 50% or 42.5% on the trust income attributed to him.

If any income is paid out to a beneficiary of the trust other than the settlor during the year, the Trustees will provide the beneficiary with a Statement of income from trusts (R185). This will show the amount of income paid to the beneficiary which he must include in his own tax return. However, this income is treated as having had tax paid on it at 50%. This tax credit is not repayable nor can it be set against any other income tax liability of the beneficiary. So the beneficiary will not have any further tax to pay but he will not be able to claim any tax repayment.

From 6 April 2010, settlors who receive tax repayments because their marginal tax rate is less than the Trustees’ rate, will be required to pass such repayments to the Trustees. Any such payments will be disregarded for IHT purposes.

Thanks (0)