The Opportunity Of Change

There were a number of changes to legislation in our industry during 2006, some of which we had plenty of warning (A-Day) and some less so (the changes to the inheritance taxation of trusts announced on 22 March). However, it is clear that the major business opportunities that have arisen through both will fill your appointment book well into 2007.

Altering The IHT Landscape
Overnight we were all reminding ourselves how discretionary trusts were taxed and exactly what the impact of an entry, exit and a ten-yearly periodic charge would mean to the end customer.

The removal of the special treatment of Interest in Possession (IIP) and Accumulation & Maintenance (A&M) trusts was not mentioned in the Chancellor of the Exchequer's speech, but was hidden away in Budget Notice 25 (BN25). It was the beginning of a constant flow of queries and challenges for all advisers and providers. The debate continues on many points, which we will address now.

Potentially Exempt
Potentially exempt transfers (PETs) have survived, but at a price. To benefit from this previously popular regime, clients will have to forgo the flexibility of changing beneficiaries, and the gift will mean the asset is in the beneficiary's estate for IHT purposes.

Additionally, the lack of flexibility and the beneficiary's right to demand their benefits at 18, or for their interest to be relevant in issues such as divorce, may make the use of bare or absolute trusts not as popular as first thought. The issue around how HM Revenue & Customs (HMRC) treat bare trusts for minors (and others lacking legal capacity) is yet to be clarified. However, it is hoped that they will continue to be outside the scope of the relevant property regime and so continue to be treated as a PET.

Seeking Clarity
The legislation offers some transitional relief, until 6 April 2008, should there be a  wish to amend existing pre Budget trusts and alter the interest in
possession. Initially, it seemed that an entire interest in possession could be changed as many times as required before this deadline. However, it now appears that there is a view that it can only be amended once. The legislation is ambiguous and is an area where HMRC have been asked for clarification, as their initial responses seem to have changed over the course of a few months.

Another area in need of clarity involves the reporting of chargeable lifetime transfers (CLTs). On top of any tax that would now become payable on the creation of a CLT each transaction over £10,000 would need to be reported using IHT100 forms. Where CLTs over ten years exceed £40,000 then a report is also required. Again, early indications were that HMRC expected to increase these limits in the Autumn to reduce the burden of paperwork on us and them, but as yet, no new reporting limits have been forthcoming.

An increase in thresholds may prove to be a double-edged sword. If we have higher reporting thresholds, HMRC may move to a 'gross' reporting position. For those using a discounted gift trust (DGT) type arrangement, this would mean reporting the whole figure invested, not just the discounted CLT.

Although tax would still be based on the discounted gift, this would provide HMRC with a much clearer picture of the volume and investment level associated with such trusts.

Underwriting Requirements
While discussing DGTs, the latest guidance from HMRC to the Association of British Insurers (ABI) on underwriting requirements at the ten-yearly periodic charge, although helpful, shows how little consultation there was between interested parties before BN25 was introduced.

For clarity, HMRC does not expect trustees to automatically ask for a medical every ten years for policies held in trust where a discount or sum assured are involved. If the trustees were not aware of any change of health, then there would be no need to seek further information. Where a value is required to be calculated they would assume the client is ten years older. However, what happens if the client dies shortly after the ten-year anniversary? Again, HMRC are considering this point. It would seem possible they might wish to have a two year rule similar to the application of IHT to pensions, but retain the right beyond this date to investigate should they so wish.

Order Of Events Planning
The order of events and how previous planning will interact with any future planning is something estate planning advisers will want to address. Creating exempt gifts, PETS and CLTs at the same time is not unheard off. Combining a DGT with a Gift and Loan scheme or creating an IHT planning exercise using both bare and discretionary trusts is good practice, but without advice the end result is likely to be additional tax which can easily be avoided.

Creating a series of trusts can also reduce future exits and ten-yearly periodic charges to zero where the previous approach of one trust would actually mean tax is payable at these points. The Rysaffe principle clearly demonstrates where advice can add value for clients and professional connections.

Spouse Exemption
IHT planning is likely to be considered earlier than before as the relevant property regime gives the client the opportunity to give away their nil rate band (NRB) every seven years. Through the use of the right trust and timings, a spouse can still be a potential beneficiary, with further tax planning opportunities post death through, for example, the use of a loan.

The threat of the loss of the spouse exemption under wills has gone away but this has highlighted the need to review and understand what the family solicitor has put in place. Demonstrating how whole of life policies and single premium bonds, under trust, will actually be taxed as opposed to the initial headlines also provides good reading. The way the NRB interacts with CLTs can mean that a £300,000 CLT will only suffer tax of 1% (£3,000 if paid by the trustees and no previous CLTs), but without advice the perception is that it is significantly greater.

In Summary
From an existing and new business perspective, BN25, which reached the statute in the form of Finance Act 2006 has provided the financial services industry with a raft of opportunities, and challenges, which only serve to underline the value and need for financial advice.

(Back to News & Comment)