Make the most of your nil rate IHT band

Posted by admin at 15:51 on 13 Feb 2017

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Richard Monkcom, a Partner of Druces LLP, and Adam Hayward, Trainee Solicitor, explain how individuals can make the most of their nil rate IHT band through the careful use of trusts.

Since 2006, the rules relating to Trusts have been changed so that generally they are seen as tax inefficient vehicles. However, by careful planning it is possible to use trusts to extend the number of nil rate bands you have available building value outside the estate of the individual and seeking to provide for the next generation without liability to inheritance tax.

Relevant property trust

A trust created after 2006 will normally be a relevant property trust and subject to the relevant property regime for inheritance tax purposes.

There are three potential inheritance tax charges to a relevant property trust.

(a) Entry charges will attract a lifetime rate of 20% (subject to the availability of the settlor's nil rate band). Should the settlor die within 7 years of a lifetime transfer, the charge will be recalculated on the basis of 40% with reduced rates after three years.

(b) Exit charges fall if the trustees distribute assets from the trust, and are based on the reduction in the value of the trust calculated by the number of quarters that have elapsed in a ten-year period. The maximum rate is 5.85%, being 39/40 x 6%.

(c) The ten-year anniversary charge is payable on the tenth anniversary of the creation of the relevant property trust and is 6% of the value of the trust that exceeds the nil rate band.

The 'added property strategy' a series of discretionary trusts

By creating a series of trusts, a settlor can prevent the value of the assets in each trust from reaching the nil rate band, thus removing the ten-year anniversary charge.

Example

A settlor creates 4 relevant property trusts A, B, C and D not having previously used his nil rate band. The trusts are set up at 6-monthly intervals with an initial cash input to each trust of £10,000. Subsequently, additions of £50,000 are made to each trust all on the same day. When creating each trust, account must be taken of the initial input to the previous trusts.

Trust A: Initial input £10,000. Addition £50,000. Account of previous trusts £0. Total= £60,000
Trust B: Initial input £10,000. Addition £50,000. Account of previous trusts £10,000. Total =£70,000
Trust C: Initial input £10,000. Addition £50,000. Account of previous trusts £20,000. Total =£80,000
Trust D: Initial input £10,000. Addition £50,000. Account of previous trusts £30,000. Total =£90,000

Scope for growth:

Trust A: £265,000
Trust B: £255,000
Trust C: £245,000
Trust D: £235,000

On the basis of the current nil rate band of £325,000 the total scope for growth is £1,000,000. Each trust must be looked at in isolation. As none of the trusts exceed the nil rate band there will be no inheritance tax on creation or a ten-year anniversary charge.

The case of CIR v- Rysaffe Trustee Co (Channel Islands) Ltd [2003] confirmed that trusts (such as the above) could not be treated as associated operations and so should not be dealt with as one trust for inheritance tax purposes.

Whilst we have case law confirming the position, precautions should be taken to ensure HMRC has no argument that the series of trusts is a guise for a single trust. Professional advice is essential before pursuing any such arrangement.

If you would like any further information on any topic contained in this article please e-mail r.monkcom@druces.com or telephone the firm on 020 77638 9271 and ask to speak to Richard Monkcom.

Nothing in this note constitutes legal advice and it is intended as general guidance only.