Comments of the STEP UK Technical Committee on the draft legislation on trusts with vulnerable beneficiaries issued on 17 January 2013 STEP is the worldwide professional association for practitioners dealing with family inheritance and succession planning. STEP helps to improve public understanding of the issues families face in this area and promotes education and high professional standards among its members. STEP has 18,000 members across 80 jurisdictions from a broad range of professional backgrounds, including lawyers, accountants, trust specialists and other practitioners. In the UK STEP has over 6,500 members and it supports an extensive regional network providing training and professional development. We welcome the opportunity to comment on the draft legislation issued on 17 January 2013 in relation to trusts with vulnerable beneficiaries. Our main concern We are very concerned that the removal of the disregard of the existence of the s32 Trustee Act 1925 power of advancement ( s32 power of advancement ) in relation to trusts for bereaved minor children under s71a IHTA 1984 ( s71a ) and 18-to-25 trusts under s71d IHTA 1984 ( s71d ) will reintroduce the uncertainly that existed in relation to s71 prior to Inglewood regarding the interaction of these powers and the requirements necessary to qualify for a particular treatment under tax provisions. It will mean that testators will need to redraft their wills in order to exclude the s32 power of advancement and insert an express power of advancement that satisfies the specific conditions in s71a and s71d to make sure they know what tax treatment will apply to the trusts which will be created on their death. Failure to do this will cause confusion and uncertainty in future for their minor and young children. It will also mean that there is a difference between trusts arising on intestacy where the s32 power will obviously be able to operate without a problem and trusts arising in a will where inserting the s32 power may breach the conditions because in the example below it would be possible to argue that the mere presence of the power (whether or not it is actually exercised) means the trust does not satisfy s71a or s71d. Paragraph 2(4), 3(4), s32 powers of advancement and similar powers s71a and 71D trusts Whilst we agree with the idea that the requirements to be fulfilled by each form of trust for the vulnerable in order to benefit from the special IHT, CGT and income tax regimes should be brought into line with each other, we do not feel that this requires all the provisions relating to different types of trusts to be identical.
We would also point out that the policy behind trusts for minors on the one hand and for disabled persons has from the outset been different. Both s71a and s71d were introduced by FA 2006 to continue the policy underlying s71 IHTA (albeit in more limited circumstances). It was always accepted by the Inland Revenue and HMRC that s32 was consistent with the provisions of s71 and it should be noted that the Inland Revenue in Inglewood v IRC [1983] STC 133 (see further below) took the view that s32 Trustee Act 1925 was consistent with s71. To import policy restrictions from the disabled persons regime into the provisions for trusts for minors and those under 25 would not only be a departure from HMRC s policy approach but would also be inappropriate and confusing. These amendments would also sit uncomfortably with the HMRC Guidance in relation to s71a and s71d and we refer in particular to the HMRC/STEP guidance first published on 29 June 2007 (published in Foster s Inheritance Tax at X6.81). We are very concerned that the proposed deletion of the statutory disregard of the s32 power of advancement (including extended powers) in relation to trusts for bereaved minor children (s71a) and 18-to- 25 trusts (s71d) created by will could cause many such trusts to fail to meet the tax rules that govern their tax treatment. Both these types of trust are commonly used to deal with the death of parents when they have young children. The intention behind the introduction of these rules was to ensure that minor and young children had property held in a less complex vehicle that would be easy for practitioners to draft without major problems. They are not tax avoidance vehicles but rather deal with the dire situation which follows the early death of the parents of minor and young children. To require the s32 power of advancement to be excluded or restricted to make sure that express trusts will qualify under s71a and s71d will in practice cause problems as many draftsmen will not be alert to the need to make the necessary changes. The provisions of s32 will virtually always be automatically imported into trusts as a matter of construction where the trust is drafted to provide that the beneficiary becomes entitled to capital at a specified age such as 18 or 25 even if no express reference is made to the section in the drafting of the trust. As the law currently stands s32 is restricted so that only one-half of the beneficiary s presumptive or vested share can be advanced pursuant to the power (s32(1)(a)). While professionally drafted wills invariably extend s32 so that the whole of the beneficiary s share of the trust fund can be advanced to them, many wills made by members of the public without professional advice omit to do this. The result would be in such cases that one-half of the assets held in such trusts would qualify under s71a or s71d but the other half of the trust fund would not qualify. This cannot be a sensible result for the draft legislation to arrive at.
It would also in our view be highly undesirable as a matter of policy for s32 to have to be excluded from trusts for minors or those under 25. In practice, many such trusts would not be able to fulfil adequately their purpose of providing for the needs of the child as they arise. Section 32 is very important in the operation of these trusts because, for example, the income may be inadequate for the child s requirements and the income may need to be topped up out of capital or some more significant need for capital may unexpectedly arise. The utility and benefit of s71a and s71d trusts would be greatly impeded if s32 had to be excluded. Section 71A trusts on intestacy A s71a trust can arise on intestacy as a result of s71a(1) which refers to the trusts created automatically on intestacy under ss46 and 47 Administration of Estates Act 1925. Section 47(1)(ii) of that Act provides that the s32 power of advancement applies to these trusts. No change is proposed to this rule so that, as now, in relation to s71a trusts created on intestacy, the fact that the s32 power of appointment applies will not affect the tax treatment. Express section 71A and s 71D will trusts The s32 power of advancement applies to all express trusts to the extent that it is not expressly amended and unless expressly excluded. The Law Commission in its recent report proposed that the provisions which operate on intestacy should reflect that which commonly applies to express trusts where the terms of the s32 powers are usually extended (see Law Commission Report 331 Intestacy and Family Provision Claims on Death). We do not think that as a matter of policy the tax legislation ought to treat s71a trusts differently depending on whether they are statutory trusts or express ones. Interaction of s32 power of advancement provisions and the requirements of tax legislation It is not entirely without doubt whether or not the existence of a s32 power of advancement will prevent trusts satisfying the requirements to qualify under s71a or 71D. Take the following example: A leaves property on trust for his children at 25 absolutely if living then and subject thereto and in default to his cousin X. In theory the trustees could with the consent of the children advance capital to X as the default beneficiary. An exit charge would arise at that point. This would obviously be a very rare event and needs the consent of the children but why is that power objectionable to HMRC given they collect tax on its exercise? As a result of the suggested change the mere possibility that a power could be exercised in this way, even though in 99.9% of cases it never would be because the trustees must always consider the children as primary beneficiaries and obtain their consent before their interests could be overridden, would
result in the trust failing to satisfy s71d. The removal of the references to s32 reinforces the impression that HMRC would now take this point. 1 We assume that at the time that the 2006 IHTA amendments were being drafted the Parliamentary draftsman felt in light of Inglewood that it was necessary to put the matter beyond doubt by including the disregards. These provisions were the subject of extensive consultation at the time and we cannot see that the position has changed. In addition, given that it will be increasingly important in light of the introduction of the GAAR to know what the intention of Parliament is when legislating, we do not feel that it is appropriate to remove the disregards because they do make clear that it is Parliament s intention that the mere existence of the s32 power of advancement should not jeopardise the tax treatment. Transitional provisions para 7 Section 71A and s71d trusts are almost always created by will or on intestacy (although they may be set up under the Criminal Injuries Compensation Scheme or the victims of Overseas Terrorism Compensation Scheme). A will speaks from death and so the trusts provided for in a will only come into existence after death. As a general principle it seems impossible to provide that will trusts set out in wills executed before 8 April 2013 are to take effect under the old rules even if death occurs after that date. This issue was the subject of considerable debate during the Law Commission consultation on the changes to the law of perpetuities and during the passage of the resulting legislation through Parliament. The result of this will be that a large number of wills drafted with professional advice since 2006 in reliance of the provisions of s71a and s71d and also wills made by members of the public without professional advice 1 In Lord Inglewood [1983] STC 133 the Court of Appeal considered whether the existence of a power of advancement prevented a statutory requirement being met in relation to an accumulation and maintenance trust. The accumulation and maintenance provisions contained in s71 IHTA at the time provided at the time that one or more persons will, on or before attaining a specified age not exceeding twenty-five become entitled to it [the settled property] or an interest in possession in it. Similar wording is used in s71a(3)(a) and s71d(6)(a). The court commented thus: The trustees, however, take a further and more substantial objection to the Crown s case. They point to the statutory power of advancement conferred by s 32 of the Trustee Act 1925. By s 69(2) of that Act the settlor can exclude or vary the statutory power as he thinks fit. Accordingly, where it is not excluded it must, we think, be regarded as simply a provision of the settlement. If property is held on trust for a beneficiary contingently on his attaining a specified age, the statutory power enables one-half of the capital to be applied for the benefit of the person contingently entitled to the property. The word benefit is very widely construed (see Pilkington v IRC [1964] AC 612, 40 TC 416). It will thus be possible, by an exercise of the statutory power, to advance half the fund to the trustees of a new settlement under which the beneficiary s interest is postponed to an age later than 25 or, indeed, under which he took no interest at all (see Re Hampden Settlement Trusts [1977] TR 177). The sole criterion is the benefit of the beneficiary. If it is for his benefit, for example for fiscal or family reasons, to make such an advance as I have mentioned there would be power to do so. Thus, in Re Hampden Settlement Trusts an advance was made on trusts under which the primary beneficiaries were the children of the advanced beneficiary. And in Re Clore s Settlement Trusts, Sainer v Clore [1966] 1 WLR 955 capital was applied by making donations to charity, the beneficiary for whose benefit the advance was made being a young man of great wealth. Both cases were concerned with express power of advancement (and not the statutory power) but nothing turns on that. It is in the highest degree unlikely that Parliament could have intended that a trust should to any extent fall outside the provisions of para 15 merely because it incorporated the statutory power of advancement. That would exclude from para 15 the statutory trusts arising on an intestacy. And it would exclude the majority of other trusts as well. Very few settlements provide that the statutory power is not to apply, though some extend the power or contain express advancement provisions more extended than the statutory power. The result, in our opinion, is this. The word will in para 15 does import a degree of certainty which is not satisfied if the trust can be revoked and the fund reappointed to some other person at an age exceeding 25. But a power of advancement has been for so long such a normal provision in a settlement for a person contingently on attaining a specified age, and since its sole purpose is to enable the trust property to be applied for that person s benefit before he attains the specified age, it would be artificial to regard the trust as not satisfying the provisions of the paragraph. A trust for A if he attains 25 is within the paragraph. It is impossible to see any rational ground why a trust for A if he attains 25 and with a power of advancement should not satisfy it also, more particularly since the exclusion of a power of advancement in such a case must be rare indeed.
will not comply with s71a or s71d if the person making the will dies on or after 8 April 2013. Those who made wills without professional advice will oddly be in a slightly better position because one-half of the trust assets would qualify (see above). It is not an answer to say that all those who have made wills in the past under which there are trusts for children under the age of 18 or 25 should now amend their wills to exclude s32. In practice many people will not realise they need to make the necessary changes to their wills but in any event we do not think it is fair to impose on the public the need to incur professional fees in making changes to their wills. Para 7(2) is unclear and will give rise to confusion. It is not clear what is meant by 'no alterations have been made to the trusts on or after that date and this will need to be clarified so that trustees know the impact of exercising their powers under the settlement. For example, what would be the situation where different beneficial trusts are established as a result of the exercise (after 7 April 2013) of a special power of appointment contained in the will of someone who dies before 8 April 2013 (see for example question 19 and example 7 in the HMRC correspondence with STEP and CIOT in relation to Sch 20 FA 2006)? It is also not clear why the addition of funds to a pre-8 April 2013 settlement on or after that date should be treated differently from the creation of a new settlement. Paragraph 4(4) - s32 powers of advancement and s89 IHTA 1984 trusts for the disabled The position for s89 IHTA 1984 ( s89 ) trusts for the disabled is slightly different. They can be set up during the settlor s lifetime and are therefore express trusts which come into effect when the assets are settled. Due to the complex nature of the various tax rules governing them they have not been widely used to date. Any will containing s89 trusts where the testator is still alive at 8 April 2013, will need to be amended if the disregard is removed to limit the s32 power of advancement so it cannot apply for any default beneficiary s benefit while the disabled beneficiary is alive. This will often be inconvenient particularly as draftsmen may not realise that this is required. Paragraphs 2(3), 3(3), 4(3) and 5(5) - clauses 71A (3C)-(3E), 71D(2C)-(2E), 89(2C) (2E) and 89A(6C)- (6E) Given the complexity of these provisions we do not feel that it is appropriate that changes to the types of trust to which these changes apply and the power to make different provisions for different cases should be capable of being introduced by statutory instrument given the implications that this may have for existing trusts and wills and the lack of proper consultation that will be possible. Also there appears to be a word or words missing in the second line of clause 71A(3A) and similar clauses in the phrase by reason only of provision that enables trustees.
Trusts for disabled beneficiaries Finally may we note that we are disappointed that after an extensive consultation HMRC still ignored the requests of a number of bodies to make the taxation of disabled beneficiaries fairer. This does not give confidence that the discussions were entered into in good faith. All HMRC have done is create new problems. Double taxation on the death of a disabled beneficiary remains because of the failure to align the CGT treatment with that applying to an individual. Do HMRC not consider that there are discrimination problems given the double tax charge on death that does not apply to individuals? Disabled trusts are meant to reflect the same tax treatment as would be available if an individual held the assets in fact the tax treatment is worse. Moreover, there are anomalies in the taxation of disabled trusts that remain and could easily be resolved without loss of revenue: for example it is not possible to convert an existing will trust to provide for a disabled beneficiary if the beneficiary was not alive and disabled at the death of the testator. There are also IHT problems where accumulation periods end and the trust no longer falls within s89 as a discretionary trust. None of these issues has been addressed. Submitted by STEP UK Technical Committee 13 February 2013