Inheritance tax on trusts: finding the right balance

After a period of uncertainty, the latest news about inheritance tax on trusts may be a little more positive. It’s still important to look at the detail carefully with your professional advisers though.

Working for a firm which deals with around 400 trusts, I’d been waiting since the autumn of 2013 for the latest consultation document from HMRC. It eventually emerged, with little fanfare, on 6th June 2014. Although this is a specialist area of tax regulation, it’s important for many of our clients, who use trusts as a way of protecting their assets and as part of their general tax planning.

Changes to the rules on inheritance tax in 2006 had led to our having to make fairly horrendous calculations on behalf of clients. It was essential to know about the history of the trust and refer after the event to documentation you wouldn’t necessarily have appreciated the need to keep.

In the years that followed, clients and accountants got used to the regime, but we nonetheless welcomed the announcement in the 2012 Budget that there would be a consultation over a simplification of the calculations. My own firm certainly responded positively. Bizarrely, however, a third of the people who took part in the exercise apparently expressed a fear that any changes might create more opportunities for tax avoidance. Further consultation therefore followed.

When the next proposals came forward, it was clear they would apply retrospectively. If a client had set up, say, five trusts during their lifetime, then the £325k IHT deduction would be split across the trusts. Rather than being a simplification, this looked like a tax-raising measure and a possible weakening of important principles from a test case called Rysaffe in 2003.

The Rysaffe judgement had examined the issue of a series of trusts being set up on separate days. The strategy was designed to reduce the effect of the 10-year periodic charge and exit charge, as you benefited from a nil-rate band for each individual trust. The Revenue claimed that the approach was an abuse, but lost the case.

Now, ten years later, it seemed as if the Rysaffe principles were being reined back, and despite pressure from respected bodies such as the Institute of Taxation and ICAEW, many of us didn’t hold out a lot of hope for a modification of the proposals. That’s why I was a little surprised that the latest HMRC document does actually appear to have taken the objections on board. The splitting of the nil-rate band will only apply to trusts set up from the date of publication – 6th June 2014.

It’s a complex area and there are different types of trusts, so despite the more positive outlook, my message would be to seek advice from your accountant. That way, you’ll be able to plan ahead with confidence.