According to HMRC, the number of trust returns submitted for the 2012/13 tax year was 160,500. This is compared with the 201,000 that were submitted in the 2007/08 tax year. Is this a sign that the number of trusts are declining? What is the future for trusts?
As many practitioners will know, the number of returns submitted to HMRC may not actually be an indicator of the number of trusts in existence. Since the changes to trusts in the March 2006 Budget, many trusts will have been converted from discretionary to interest in possession as this was neutral for inheritance tax purposes. If the trust receives all its income net of tax, and there are no chargeable gains, HMRC may no longer require tax returns to be submitted.
Every year there are stories of the decline of trusts and whilst they may not be the most tax efficient vehicle they once were – particularly since the demise of the accumulation and maintenance trust – is it true that trusts have really had their day?
There seems to be a view in general, and even amongst those in the profession, that the only reason for establishing a trust is to avoid inheritance tax. However, should tax, and the avoidance of it, always be the driver?
Nowadays it is not uncommon for people to have had more than one spouse. Often an individual will have had children during their first marriage and find themselves embarking on a second marriage later in life. Achieving a balance between the children and the second spouse isn’t always easy and there are often various tensions in the family regarding this. A life interest trust for the benefit of the spouse, and the children as remaindermen is probably the best way of achieving a compromise.
What about the issue of asset protection? At what point does a wealthy individual think their children are old enough, or sensible enough, to receive wealth? The most flexible trust to answer these questions is a discretionary trust, but the tax advantages of these trusts are limited. However, if the tax tail is allowed to wag the “what are we trying to achieve here” dog, vulnerable or irresponsible children could be in receipt of wealth that they are not able to deal with.
The future of trusts lies with protecting wealth. At the end of the day, if Mr A Wealthy Man leaves money or assets in his will to his children, there is a potential IHT liability of 40% on everything over the nil rate band. If, however, he puts cash or assets into a discretionary trust, he can use up his nil rate band every seven years, or pay the 20% lifetime rate potentially saving inheritance tax, but also protecting his assets.
The income and capital gains tax position is effectively neutral in terms of tax rates paid, although the CGT annual allowance for a trust is less than that of an individual. However, any tax disadvantages could be a relatively small price worth paying to achieve the aim of protecting assets and beneficiaries.