Professional Documents
Culture Documents
This Module ends with a glossary of terms used in nancial services and it will be helpful to cross-refer to the glossary in Module 5 when reading this Module.
1. Introduction
For those in nancial services who liaise with lawyers and accountants, this Module is important. We have already seen from the glossary in Module 5 that the various professionals involved in estate planning do not all talk the same language, and for the types of trusts encountered in this Module, this problem is particularly acute. Lets be honest about the barriers to understanding here: y Financial services trusts often use marketing names, which do not refer to the critical tax/legal words which would clarify the tax behaviour of the trust, resulting in a communication barrier. y The trust wordings encountered can be written in a very different style to that which most lawyers will be familiar with, when compared to their own ofce styles, resulting in a communication barrier. y Not only are some of the trust wordings unfamiliar to those outside nancial services, but the trust asset which sits inside the trust can be something of a mystery too. Do not be surprised if, when using the word bond, the professional
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colleague you are dealing with assumes you might be referring to the type of investment which generates interest taxed at 20% and is issued by the government. The tax treatment of single premium insurance bonds is not widely understood outside nancial services. The intricacies of term policies, whole of life, critical illness benet and terminal illness benet will be known to those who have studied for nancial services exams, but only forms a small part of the training of lawyers (if at all), resulting in a communication barrier. y The legacy of sales target-driven campaigns to sell insurance bonds or other insurance products has resulted in some in wealth management circles being sceptical about the basis for recommending the use of certain insurance-based trust options. There has also been a question about the levels of tax knowledge held by those selling these trust-based insurance solutions to clients. Whilst RDR should hopefully address these key issues of adviser remuneration and qualication standards, nancial planners can encounter mistrust for these reasons. Set against this background of potential misunderstandings, there is however clear evidence of more integration between law and nancial services professionals. Some universities now give law graduates the option of studying for nancial services exams as part of their route to post-degree qualication. Some law rms with in-house nancial services teams offer trainee lawyers the option of a 6 month seat in nancial services, with some trainees then moving to be dual qualied as both a lawyer and nancial planner/investment manager. Finally, some nancial services rms are looking to recruit law graduates as future nancial planners. All of this movement between the legal and nancial services sectors will help integration. This Module is intended to give you insight to further support good working relationships between all those who deal with private clients and their trusts and estate planning needs. This Module will look at the most frequently encountered trusts used with life and pension policies, and takes as its starting point the client need which is being addressed. Being able to show how the trust (and the asset which sits inside it) meets a client need is essential if you are to communicate effectively with those outside nancial services and overcome the barriers set out above.
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of death within 25 years). There is usually no investment content or surrender value to this pure life assurance policy, so the estate planning focus is on who should receive the sum assured when the life assured dies. Depending on the wording of the life policy contract, there may also be two other types of benet offered under the contract, either of which leads to the sum assured being paid out and the life policy ending at that earlier point: y Critical illness: on diagnosis of one of the listed conditions, the sum assured is paid out. y Terminal illness: on diagnoses of a terminal illness, the sum assured is paid out. The reason why the capital sum is required will drive what type of trust will meet the clients needs.
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family and executors. If the life policy proceeds are held in the trust, they cannot be affected by the deed of variation. y Asset protection. The points here are similar to those which arise in Module 7 when looking at the choice for a client in either leaving his estate outright to spouse, or using a NRB will trust. In the event of the clients death and the life policy proceeds being paid to a discretionary trust (rather than to the deceaseds estate), payments can be made to the surviving spouse, but the value of the trust is not aggregated with the spouses estate for IHT purposes. It also means that the trustees control the payments from the trust. This could be important in the event of re-marriage and the ability to prioritise the deceaseds children over the needs of the spouse who has now re-married. y IHT - if the life policy proceeds are owned by the trustees, they are not an asset of the deceaseds estate on which 40% IHT may be due.
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Split trust
The client need intended to be met by this trust is where the client wishes the death benets to be held by the trustees, but wishes to retain one or more other benets arising under the policy. In this way, the benets are split, hence the marketing name for this trust. For example, with a critical illness benet, whilst the client may have been ill and may nd his employment affected, a critical illness may not be fatal. It is easy to see therefore why the client may wish to retain the critical illness benet, as an essential source of a capital sum after what could be a life-changing medical event. The terminal illness benet may or may not fall into this category. On one view, if the client has a very short life expectancy after diagnosis of a terminal illness, receiving a large capital sum into his estate may be unhelpful from an IHT perspective. On the other hand, it may provide funds which can be put to good use for that period. Whether or not to retain the terminal illness benet will be a personal decision for the client. Any proforma trust wording should be read carefully to check the position for each of the possible benets arising. As we shall see later with a Discounted Gift Trust, the creation of a Split Trust involves the legal concept of the carve-out. The settlor retains certain benets whilst gifting others away. The end result is that the trustees are the named policyholders, but they hold some rights under the policy absolutely for the settlor, whilst other rights are held according to the terms of the trust for the
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beneciaries. The settlor is excluded from benetting from the gifted portion, which addresses the GWROB point. Views are divided on whether it is possible to create a carve-out trust under Scots law, which has prompted some companies to only offer an English law Split Trust for this reason, available for use with clients throughout the UK.
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Business protection
A specic client scenario which can involve a term policy is where a group of people are in business together, either as a partnership or a company. The client need here relates to the position on death, where the deceased business owners family inherit a business asset (but would probably prefer the cash equivalent) and the surviving business owners ideally want to consolidate their business and buy-out the familys inherited share of the business. A term policy can be used to create funds for the business owners to achieve that outcome, which can also achieve the desired result for the family. A relevant IHT point here relates to BPR (see Module 3). The deceaseds family inherit a share of a business which could qualify for 100% BPR, which is a good result for IHT purposes. Some careful drafting is required in relation to partnership agreements or shareholder agreements to avoid creating a binding obligation to sell on death, since that would prevent BPR being available on death. A crossoption agreement deals with this problem, which gives the family the option to sell but still allows BPR to apply. At one time it was common for business protection trusts to include the settlor as a potential beneciary, since that allowed the policy to go with him if he left the business at some point in the future. With the introduction of preowned asset tax (POAT - which is an income tax charge) in 2005, many business protection trust wordings were altered to remove the settlor as a potential beneciary. Whilst the HMRC Guidance Note on POAT (listed under Further Reading) takes the line that business protection trusts from which the settlor can benet are inside the scope of POAT, that view is not universally shared and arguments supporting an alternative view can be made.
2.5
Notes
Tax year 2011/2012 is the reference year for all gures in this module, unless otherwise indicated. The glossary of terms in module 5 will assist you in working through module 10 and the two modules should be read together.
1. Introduction
Financial planners need to be aware of the effect of the three main taxes on trusts: IHT CGT and IT. Tax is important both on creation and throughout the life of a trust and is relevant not only for the trustees, but also for the settlor as well as the beneciaries. Tax is an important consideration for a client when deciding whether to set up a trust at all, or whether an existing trust should be continued, amended or brought to an end. Each of these three taxes will be considered in turn.
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In particular, the RPR meant there was an immediate disadvantage to forming a new trust because this could trigger an immediate IHT charge for the settlor, rather than qualify as a PET. Depending on the values involved, however, no 20% IHT charge may apply. Similarly, there could be ongoing IHT charges throughout the life of the trust, not just on the death of a beneciary. HMRC Research Report 25 in 2006 indicated that the average gift to a trust between 2000 and 2002 was 100,000, however, at which level IHT is not generally an issue unless a client has an extensive history of making gifts to certain trusts.
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there was a discretionary phase until the beneciaries became entitled to income or capital. However, during this time the RPR did not apply, nor was there any IHT if a beneciary died.
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opportunity closed on 6 October 2008. If this type of TSI exists, the spouse/civil partner TSI option described above does not apply subsequently as there can never be successive TSIs in a trust. y For A&M trusts, the old rules continued to apply from Budget Day 2006 to 6 April 2008. The old rules only apply beyond 6 April 2008 if the age the beneciaries become entitled was lowered to 18 and if they become entitled to capital at that point, not just income. If the age of capital entitlement was changed to fall between age 18 and 25, the new 18-25 trust rules apply (see module 6) so that an IHT exit charge may apply when capital is paid out, but there would not be any ten year charge within the trust. Finally, if the age of capital entitlement was above age 25, the A&M trust would move into the RPR regime from 6 April 2008. Trustees of A&M trusts had to arrive at a decision to either modify the trust or leave it unchanged in that two year transition period, considering factors such as the value of the trust, whether an IHT charge would in fact arise, and whether the better asset protection outcome was to preserve an older age (e.g. 35, 45) for capital entitlement for the beneciary and so fall within the RPR regime. y One practical point to watch with A&Ms is that a trust might be called an A&M but it can be subject to various different IHT regimes. This can give rise to a mixed trust. Example 1 Bill made an A&M trust on 10 September 1995 for his 3 grandchildren, Amy, Beatrice and Charlie. The terms of the trust said that at age 25 they would become entitled to income for the rest of their lives. Amy was 25 on 2 October 2004. Beatrice was 25 on 12 May 2006. Charlie is still under 25 but will become entitled to capital as well as income on his 25th birthday as a result of a change made to the terms on the trust on 26 March 2008, when the trustees signed a Deed of Appointment to alter the trust. How is this trust taxed to IHT? Amys share of the trust is subject to the old IIP rules as she had a life interest in her share of the trust prior to Budget Day 2006. There will be an IHT charge on her death. Beatrices share of the trust is subject to the RPR because her IIP arose after the 2006 Budget, but before the trustees had taken action to alter the terms of the trust. There will be an IHT charge on this part of the trust fund every 10 years and when capital is paid out.
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Charlies share is subject to the 18-25 trust rules. There will be an IHT exit charge on his 25th birthday.
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2.5