Finance Bill 2015: Inheritance tax taxation of relevant property trusts

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1 Finance Bill 2015: Inheritance tax taxation of relevant property trusts Introduction STEP is the worldwide professional association for those advising families across generations. We help people understand the issues families face in this area and promote best practice, professional integrity and education to our members. Currently we have around 20,000 members across 95 countries from a range of professions, including lawyers, accountants and other specialists. Our members help families plan for their futures: from drafting a will or advising family businesses, to helping international families and protecting vulnerable family members. STEP welcomes this opportunity to comment on the draft clauses published on 10 December 2014 for inclusion in the Finance Bill HMRC have consulted on the possible changes to the taxation of relevant property trusts for Inheritance Tax purposes. The previous consultations addressed the issues in particular of simplifying the method of the taxation of relevant property trusts and of limiting the ability of settlors to reduce the rate of inheritance tax by creating pilot trusts or other multiple trusts. STEP commented on the consultation documents issued by HMRC including the last consultation document issued on 6 June Same-day additions We note the approach adopted in the draft clauses concerning fragmentation and in particular the use of pilot trusts by the introduction of the provisions on same-day additions. We assume that the reference in s.62a to settlement A and settlement B is a reference to any number of settlements and not just to two settlements. If this is correct it may be as well to make it clearer. Further comments on s.62a Aggregation of same-day additions of non-relevant property Section 62A is drafted so as to apply to transfers on the same day even where one of the transfers of value is to a non-relevant property trust e.g. a gift to qualifying interest in possession trust such as a disabled person s trust and therefore a potentially exempt

2 transfer. Likewise a legacy to a relevant property trust and a legacy on IPDI trusts under the same will would it seems same-day additions even though one of the transfers of value is not to a relevant property trust. This would bring into the calculation of the rate of charge on the relevant property trust the initial value of the property in the other trust even though it was not relevant property. If so this would not be consistent with the amendment to s.66 IHTA 1984 which excludes from the calculation of the ten year charge property which is not and has never been relevant property (by the repeal of s.66(4)( b)). Same-day additions: aggregation of the initial value of the other settlement even though not relevant property Is it the intention that where there is a same-day addition to a trust that comprises and has only comprised non-relevant property, the initial value of the property in the nonrelevant property trust should be aggregated, whereas it would not be if the nonrelevant property was in a separate fund in the same settlement? If so this would not only be anomalous but also inconsistent with the repeal of s.66(4)(b). For example, X made two settlements one an interest in possession settlement and the other a discretionary settlement in December 2005 which were not related settlements and if X then made a same-day addition to each settlement of 500,000 in June 2015, the initial value of the interest in possession settlement would be aggregated with the value in the discretionary settlement on its ten year anniversary charge in But if the 500,000 interest in possession property had been part of the same settlement as the discretionary fund settled in 2005, it would not be aggregated with the discretionary fund. It is hard to see the logic of this distinction. Initial value of non-relevant property in related settlements where there is no same-day addition Is it still appropriate that the initial value of non-relevant property in a related settlement should be aggregated for calculating the rate of tax on 10 year charges and exit charges on the related relevant property settlement? This seems not to be appropriate bearing in mind that the value of property in a non-relevant property fund in the same settlement is not now to be aggregated. It would seem to us that only the initial value of relevant property in a related settlement should be taken into account so that there is then parallel treatment with that of non-relevant property in the same settlement.

3 For example assume that in December 2005 X settles 1 million in trust 500,000 of which was and remains held on qualifying interest in possession fund and 500,000 of which was in a separate fund held on discretionary trusts. On a ten year anniversary charge in 2015 the interest in possession fund will be ignored. This would continue to be the case even if X added say 100,000 to each fund in June However, if X had made two separate 500,000 related settlements in December 2005 one a qualifying interest in possession trust and the other a discretionary trust the initial value in the qualifying interest in possession settlement would be aggregated. Transitional provisions Section 62A(3)(d) provides that there is no same-day addition where the transfer of value results from the payment of a premium under a contract of insurance the terms of which provide for premiums to be due at regular intervals of one year or less. In some cases the settlor may make payments to the trustees to enable them to pay the premiums to the insurance company rather than the settlor paying the insurance company direct. This may be a matter of convenience or because of the requirements of the insurance company concerned. Could s.62a(3)(d) be widened to cover this situation as well? Section 62B provides that the rules for same-day additions do not apply if, inter alia, either or both of the settlements A and B is a protected settlement within s.62b. Under s.62b a protected settlement includes a settlement where there has been a transfer of value by the settlor on or after 10 December 2014 as a result of which the value of the property comprised in the settlement was increased by a transfer of value under s.4 of the IHTA 1984 on the settlor s death before 6 April 2016 by reason of a protected testamentary disposition. A protected testamentary disposition is defined to mean a disposition effected by the provisions of the settlor s will that at the settlor s death are, in substance, the same as they were immediately before 10 December There has been some suggestion that a protected testamentary disposition cannot mean a new will. Could it be confirmed that all that is required is evidence that the new will or codicil reproduces the dispositions effected in the old will and that whether it is a new will or a codicil is irrelevant? Could s.64b(4) be amended to refer to a codicil executed by the settlor and not just to the settlor s will in line two of that subsection?

4 The requirement that the settlor should have died before 6 April 2016 (less than 18 months after the clauses were published) is in our view far too short a period. In practice many taxpayers do not review their wills that frequently and even though the new provisions will no doubt be given some publicity in the press and elsewhere a longer transitional period would be appropriate. We would suggest that a five year period would be given and that the protected settlement protection should apply where the settlor died at any time before 6 April 2020 where the property passes to the recipient settlement pursuant to a protected testamentary disposition. Initial value of settlements where there is a same-day addition In s.66(3) it appears even a tiny same day addition will result in the other settlement being treated as a related settlement and result in the original trust property being aggregated and brought into the ten year charge calculation. For example if X made an interest in possession trust in 2005 (settling 500,000) now worth 1m and then later set up a discretionary trust with 250,000 in Then in 2015 X added 100 to each trust on the same day inadvertently e.g. X pays some fees of both trusts. In that case is the 500,000 included in the computation in calculating the rate of tax on the ten year anniversary of trust 2 in 2023? The principle might more legitimately apply where the original trust was a relevant property trust although it can be draconian. Could there be a let out for de minimis same-day additions or where the funds added are used to pay fees? Where there has been a same-day addition the new s.66(4)(e) and s.68(5)(f) aggregate not only the same-day addition but also, if it is not a related settlement, the initial value of property comprised in the other settlement. These changes to s.66 and s.68 apply respectively to 10 year charges and to exit charges before the first 10 year anniversary. We assume that it is the intention to make a similar change in relation to exit charges arising between 10 year anniversaries under s.69 IHTA 1984 where there has been a same-day addition after the most recent 10 year anniversary and before the date of the exit charge. If that is the intention, is it considered that the amendment to s.69 incorporating the new s.69(2a)(b) is clear and that it does bring in the initial value of the other settlement as well as the same-day addition? Commercial trusts We note that the position of commercial trusts is not addressed by the draft clauses. We have raised the question of commercial trusts in the past and this is a matter of concern because there is no exclusion from, or mitigation of, the relevant property trust

5 regime for trusts established for full value or as a result of a commercial arrangement not involving any element of bounty by the settlor. The Inheritance Tax position is to be contrasted with the position under the Income Tax provisions for settlor interested trusts under Part 5, Chapter 5 of ITTOIA Would it not be possible to exempt trusts from Inheritance Tax where there is no element of bounty unless such trusts are employee benefit trusts or otherwise subject to tax under ITEPA 2005 in respect of distributions. Heritage property and dispositions from property settled by will We welcome the proposed amendment to s.79 IHTA 1984 (10-yearly charge for Heritage property) and the amendment to s.144 IHTA 1984 (Dispositions from property settlement by will within three months of death). Section 80 IHTA 1984 We note the changes proposed to s.80 IHTA 1984 and the reasons for amending s.80. However, we are not clear on the way in which the transitional provisions in new subsection (3) and (4) apply. Where the provisions of the new subsection (3) are satisfied the result is that the amendment to s.80 will apply when the last of the settlor or settlor's spouse cease to have an interest in possession. However, s.80 will then apply with effect from the date that the last qualifying interest in possession came to an end. For example, if in relation to a pre-2006 interest in possession trust the settlor had an interest in possession which came to an end on a lifetime termination on 1 January 2014 in favour of their spouse, s.80 would apply by reason of subsection (4) in relation to the interest of possession of the spouse even though it was not a TSI. Assume that the interest of the spouse then came to an end of 1 January The postponing effect of s.80 would then seem to continue until 1 January 2016 (because for this purpose the first and third reference to interest in possession in s. 80 are deemed to be retained) but the settlement deemed to be created under s.80 will arise on the 1 January 2014 (because the second reference to interest in possession is to a qualifying interest in possession) when the qualifying interest in possession came to an end. Is this a correct understanding of the effect of the provision?

6 If so what would be the position in relation to say a ten year charge that occurred in between the 1 January 2014 and 1 January 2016, for example, if there was a ten year charge on 1 January 2015? Would there then be a charge on 1 January 2015 but which only became chargeable on 1 January 2016? Or would the provision operate in some other way? Conclusion We wish to conclude by saying while the taxation of relevant property trusts for Inheritance Tax purposes is not greatly simplified by the draft clauses, the approach adopted by the draft clauses is a reasonable and proportionate way of addressing the taxation of pilot and other similar trusts and we would commend HMRC on the approach now adopted. STEP UK Technical Committee 4 February 2015