Tax Question:

I am a trustee in respect of a life assurance policy which was written into trust - discretionary, the settlor is not a potential beneficiary. The policy was taken out 5 years ago, all premiums were paid by the settlor. The policy has now paid out under critical illness provisions - so the settlor is still alive. The capital received by the trustees (£800,000) exceeds the current NRB for inheritance tax. The trustees would like to appoint all or some of the capital to one (or more) of the potential beneficiaries, and retain some capital in the trust.

In particular, IHT concerns me:

1. Is the original settlement a PET and does the 7-year rule still have any relevance, so must we wait until the settlor has survived for another 2 years before we know that the initial gift to the trust is exempt?

2. Are IHT exit charges applicable to any appointment to beneficiaries?

3. Will the first 10 year charge be due in 2015, i.e. 10 years from when the policy was written into trust, or 10 years from when the proceeds of the policy was paid to the trustees? I ask this because up to now there have not really been any assets for the trustees to administer so I am not sure when the trust actually commenced.

Are there any CGT or income tax issues I should also take into account before making an appointment?

Answer:

You should ensure that this is considered in detail.

1. Is the original settlement a PET and does the 7-year rule still have any relevance, so must we wait until the settlor has survived for another 2 years before we know that the initial gift to the trust is exempt?

If the trust is a discretionary trust the settlement would have been a CLT, and potentially subject to a 20% IHT liability. However payments made to the plan may be covered by one of the exemptions (annual exemption and/or normal expenditure out of income exemption).

If not there may have been an immediate IHT liability if the nil rate band was exceeded.

I assume that the plan was not already set up and subsequently transferred into the trust -- if it was this could be classed as a transfer of the market value of the plan at that time for IHT purposes. The 7 year rule still applies so that after 7 years the value of the transfer is excluded from the transferors estate.

2. Are IHT exit charges applicable to any appointment to beneficaries?

Where the property leaves the trust before the first 10 year anniversary, IHT is payable at a fraction of the 'effective rate' of IHT that was paid when the trust was set up. The fraction is 30% multiplied by the number of quarter years (40ths) that have elapsed since the trust was set up.

In general terms, if no IHT was paid when the trust was set up, there will be no IHT charge if property leaves the trust during the first 10 years.

3. Will the first 10 year charge be due in 2015, i.e. 10 years from when the policy was written into trust, or 10 years from when the proceeds of the policy was paid to the trustees? I ask this because up to now there have not really been any assets for the trustees to administer so I am not sure when the trust actually commenced.

The 10 yearly charge will arise 10 years after the trust was set up ( and on every 10 year anniversary after that.)

Income tax and CGT should not be an issue for you.