Was your Mum a beneficiary of the trust under the settlement deed during her life time? Note that this isn’t necessarily the same as being granted a license to reside in the property by the trustees.
Who are the current and past beneficiaries of the trust?
Have you or do you intend to take professional advice on this matter? I would recommend doing so as the legislation is complex. The tax planning rationale behind this trust also isn’t obvious; all the more reason for consulting a professional who knows the background and history. You won’t get that from an Internet forum.
Hopefully there would have been a settlement of cash at the outset to fund at least the first ten year charge, in order to avoid this issue.
It may also be possible to agree with the beneficiary that a small amount of income must to be held back (not accumulated, as an IIP) each year in order to fund IHT. I don’t think this would constitute a settlement by the life tenant - the income isn’t written off, it’s just not immediately available to distribute. I’m aware this would put the trustees in an awkward position, but it’s easy to imagine it happening, because a life tenant would be ill advised to bring a claim for loss of income against his trustees when the consequence is an unpaid IHT bill or CGT on a forced property sale.
On the accumulation point, I think 3-5 years is certainly a good guide as to when you have an issue, and when HMRC would, in principle, want to dispute. Trying to construct an argument for why one was not accumulating, I would say that accumulation is an exercise of trustee power, which implies a positive decision, not simply an absence of distribution. I would (hopefully) point to trust minutes regarding how the income is earmarked for future distribution (pending urgent property repair work in this case). In the case of say a trust holding a share portfolio, I would (hopefully) point to the trust accounts, which show income is being held in cash at bank and hasn't been reinvested in capital. This is almost entirely a legal question though, the tax consequences simply follow on from trust law. And I'm not a lawyer.
Incidentally, if these property repairs are a revenue expense of a property business, I don't see how you are holding back distributions by paying them in priority. Rather you are realising a reduced surplus on the income account so there is less income to distribute. That's not the same thing. And realising property losses / reduced profits because you have to fund periodic refurbishment is likely entirely proper conduct for a property business.
On the IIP point, if all of the beneficiaries fall under a bus bar one, I don't believe you would have an IIP trust. An IIP means the beneficiary has an absolute interest in income. In this case you would still be subject to the clause quoted in the OP which gives discretion as regards timing etc, and the trustees may well have discretion to add a new member to the discretionary class of beneficiaries.
Having said that, we're told that all of the beneficiaries are grown adults. It may not be right for the trustees for non-tax reasons, but could an IIP suit them better? It can be achieved without tax consequences and the tax burden on the trustees would be far lower.
Yes, the trustees are permitted to pay out less than the annual income each year. This isn't an interest in possession trust and the beneficiaries interest in income remains contingent. Surely the clause you quote from the deed spells this out: pay the income "in such manner as my Trustees shall from time to time in their absolute discretion think fit."
I would interpret "from time to time" relatively broadly. If the trustees believe that the repair work (which may or may not be an income expense - is this a property business?) is necessary for the preservation of trust property, and hence is in the interest of the beneficiaries, I think it's a perfectly reasonable exercise of their discretionary powers to hold back income distributions for a time to provide a contingency.
Whether the trustees can reaccumulate would depend on what the trust deed says. I suspect most modern trust deeds would allow for it as an exercise of the the trustee's discretionary powers. They may also have discretionary power to amend the trust deed sufficient to allow them to accumulate. I'm not sure it would be wise though; a positive decision to accumulate binds their hands as the income is then capitalised. Simply not distributing, with the income balance earmarked for future income distributions, is surely more flexible. As regards the reason cited for accumulating, unless the beneficiary is going to immediately walk into a job paying £150,000 per year, presumably there may still be some tax benefit in distributing income which carries a 45% tax credit.
Forgot to comment re Dullard’s worked example. You only get to that £100k diff in CLT (based on 24-2, not 25-1) by applying an unrealistic discount rate (which Dull acknowledges).
I’m out because it’s late and while of interest this is all highly theoretical
Poor choice of words perhaps, but I wasn’t referring to a joint estate at all. Rather to the estate of the transferor, whoever that might be.
I agree that s161 is just a valuation rule for establishing T of V
I think there are 3 options, as I went through (note I edited my post slightly while you were writing yours):
1) the method I set out in my second post on the thread - which assumes both settlements are made simultaneously
2) Ignore the settlement made by the spouse on the same day - I don’t see how the maths on this can ever add up without disregarding s161 altogether
3) Impute an arbitrary order to the settlements (analogous to s266). Either H or W goes first. Which seems to me the most wrong of all as then you really are inferring the concept of a joint estate
I don’t see any other possible analysis and 1) is the only one that produces a satisfactory answer to my mind
I agree there are no provisions similar to s266 re order of transfers when you have two settlors, albeit spouses. And the concept feels wholly antithetical given H&W are taxed independently. So I don’t think one can consider the transactions in order. Who goes first?
Presumably we both agree that the related party rules in s161 are in point? The company is controlled by husband and wife, so our starting point in establishing loss to the estate must be a per share value based on a 100% shareholding. What’s the end point? If we agree that we can’t inpute an order to the settlements, the options must be we treat the settlement made by spouse as simultaneous or ignore it?
My rationale was to hypothecate a much more radical change in ownership and work out the principle from there - because in the scenario we were discussing Dullard is right, there would only ever be a small discount in going below 75%. But what if instead we were going from H 50% W 50% to say H 20% W 20% Trust 60%
Well, running through the two options, we are either going from 100/100 to 40/100 (pro rata between H&W on a per share basis) or from 100/100 to 70/100? And the second method feels completely wrong, because it wouldn’t include any discount for loss of control on either H or W’s transfer, even though they are clearly now minority shareholders. That must understate the transfer of value.
I think Dullard is probably right, in the sense that it seems at odds with some of the central tenets of IHT because it isn’t really an IHT issue, but one of maths and valuation principles.
Agree (that was my reference to "is it deemed capital?" above.)
As regards time limits, I am never entirely sure on that point. Certainly there is a time limit of 4 years in IHTA84, but I don't believe that can be read across to say the income tax treatment on distribution. I agree with the principle though. Certainly any income that gets rolled up during a prescribed accumulation period must be capital.
I agree is potentially an issue. Would depend on the trust deed. I believe many deeds still allow some discretion as regards timing of income distributions, who to distribute to etc even after the accumulation period has ceased. I don't think it's analogous to an IIP.
Of course distributing income instead of capital (is there income? how much? is it deemed capital?) may be more tax efficient. Or it may not be depending on tax pool balance, marginal rate of beneficiaries etc. Who knows?
My answers
Was your Mum a beneficiary of the trust under the settlement deed during her life time? Note that this isn’t necessarily the same as being granted a license to reside in the property by the trustees.
Who are the current and past beneficiaries of the trust?
Have you or do you intend to take professional advice on this matter? I would recommend doing so as the legislation is complex. The tax planning rationale behind this trust also isn’t obvious; all the more reason for consulting a professional who knows the background and history. You won’t get that from an Internet forum.
Hopefully there would have been a settlement of cash at the outset to fund at least the first ten year charge, in order to avoid this issue.
It may also be possible to agree with the beneficiary that a small amount of income must to be held back (not accumulated, as an IIP) each year in order to fund IHT. I don’t think this would constitute a settlement by the life tenant - the income isn’t written off, it’s just not immediately available to distribute. I’m aware this would put the trustees in an awkward position, but it’s easy to imagine it happening, because a life tenant would be ill advised to bring a claim for loss of income against his trustees when the consequence is an unpaid IHT bill or CGT on a forced property sale.
Deleted
On the accumulation point, I think 3-5 years is certainly a good guide as to when you have an issue, and when HMRC would, in principle, want to dispute. Trying to construct an argument for why one was not accumulating, I would say that accumulation is an exercise of trustee power, which implies a positive decision, not simply an absence of distribution. I would (hopefully) point to trust minutes regarding how the income is earmarked for future distribution (pending urgent property repair work in this case). In the case of say a trust holding a share portfolio, I would (hopefully) point to the trust accounts, which show income is being held in cash at bank and hasn't been reinvested in capital. This is almost entirely a legal question though, the tax consequences simply follow on from trust law. And I'm not a lawyer.
Incidentally, if these property repairs are a revenue expense of a property business, I don't see how you are holding back distributions by paying them in priority. Rather you are realising a reduced surplus on the income account so there is less income to distribute. That's not the same thing. And realising property losses / reduced profits because you have to fund periodic refurbishment is likely entirely proper conduct for a property business.
On the IIP point, if all of the beneficiaries fall under a bus bar one, I don't believe you would have an IIP trust. An IIP means the beneficiary has an absolute interest in income. In this case you would still be subject to the clause quoted in the OP which gives discretion as regards timing etc, and the trustees may well have discretion to add a new member to the discretionary class of beneficiaries.
Having said that, we're told that all of the beneficiaries are grown adults. It may not be right for the trustees for non-tax reasons, but could an IIP suit them better? It can be achieved without tax consequences and the tax burden on the trustees would be far lower.
Yes, the trustees are permitted to pay out less than the annual income each year. This isn't an interest in possession trust and the beneficiaries interest in income remains contingent. Surely the clause you quote from the deed spells this out: pay the income "in such manner as my Trustees shall from time to time in their absolute discretion think fit."
I would interpret "from time to time" relatively broadly. If the trustees believe that the repair work (which may or may not be an income expense - is this a property business?) is necessary for the preservation of trust property, and hence is in the interest of the beneficiaries, I think it's a perfectly reasonable exercise of their discretionary powers to hold back income distributions for a time to provide a contingency.
Whether the trustees can reaccumulate would depend on what the trust deed says. I suspect most modern trust deeds would allow for it as an exercise of the the trustee's discretionary powers. They may also have discretionary power to amend the trust deed sufficient to allow them to accumulate. I'm not sure it would be wise though; a positive decision to accumulate binds their hands as the income is then capitalised. Simply not distributing, with the income balance earmarked for future income distributions, is surely more flexible. As regards the reason cited for accumulating, unless the beneficiary is going to immediately walk into a job paying £150,000 per year, presumably there may still be some tax benefit in distributing income which carries a 45% tax credit.
Forgot to comment re Dullard’s worked example. You only get to that £100k diff in CLT (based on 24-2, not 25-1) by applying an unrealistic discount rate (which Dull acknowledges).
I’m out because it’s late and while of interest this is all highly theoretical
Poor choice of words perhaps, but I wasn’t referring to a joint estate at all. Rather to the estate of the transferor, whoever that might be.
I agree that s161 is just a valuation rule for establishing T of V
I think there are 3 options, as I went through (note I edited my post slightly while you were writing yours):
1) the method I set out in my second post on the thread - which assumes both settlements are made simultaneously
2) Ignore the settlement made by the spouse on the same day - I don’t see how the maths on this can ever add up without disregarding s161 altogether
3) Impute an arbitrary order to the settlements (analogous to s266). Either H or W goes first. Which seems to me the most wrong of all as then you really are inferring the concept of a joint estate
I don’t see any other possible analysis and 1) is the only one that produces a satisfactory answer to my mind
I agree there are no provisions similar to s266 re order of transfers when you have two settlors, albeit spouses. And the concept feels wholly antithetical given H&W are taxed independently. So I don’t think one can consider the transactions in order. Who goes first?
Presumably we both agree that the related party rules in s161 are in point? The company is controlled by husband and wife, so our starting point in establishing loss to the estate must be a per share value based on a 100% shareholding. What’s the end point? If we agree that we can’t inpute an order to the settlements, the options must be we treat the settlement made by spouse as simultaneous or ignore it?
My rationale was to hypothecate a much more radical change in ownership and work out the principle from there - because in the scenario we were discussing Dullard is right, there would only ever be a small discount in going below 75%. But what if instead we were going from H 50% W 50% to say H 20% W 20% Trust 60%
Well, running through the two options, we are either going from 100/100 to 40/100 (pro rata between H&W on a per share basis) or from 100/100 to 70/100? And the second method feels completely wrong, because it wouldn’t include any discount for loss of control on either H or W’s transfer, even though they are clearly now minority shareholders. That must understate the transfer of value.
I think Dullard is probably right, in the sense that it seems at odds with some of the central tenets of IHT because it isn’t really an IHT issue, but one of maths and valuation principles.
Agree (that was my reference to "is it deemed capital?" above.)
As regards time limits, I am never entirely sure on that point. Certainly there is a time limit of 4 years in IHTA84, but I don't believe that can be read across to say the income tax treatment on distribution. I agree with the principle though. Certainly any income that gets rolled up during a prescribed accumulation period must be capital.
I agree is potentially an issue. Would depend on the trust deed. I believe many deeds still allow some discretion as regards timing of income distributions, who to distribute to etc even after the accumulation period has ceased. I don't think it's analogous to an IIP.
Of course distributing income instead of capital (is there income? how much? is it deemed capital?) may be more tax efficient. Or it may not be depending on tax pool balance, marginal rate of beneficiaries etc. Who knows?