UKFinance Bill 2004

Pre-Owned Assets

Measures affecting the use of Trusts

• taxation of “pre-owned” assets
   
• CGT relief restricted
   
• increase of trust tax rates

• Certain arrangements had been employed to circumvent IHT Gifts with Reservation (GWR) rules.
   
• Prior to the 2004 budget announcement the position of settlors who transfer major capital assets such as a UK home to trust and continue to enjoy them was somewhat obscure. In one reported case, a settlor transferred a property to an offshore company, continued to reside in it and was found to be liable for Income Tax for the benefit in kind received of the market value of the property. The decision was based on the treatment of the settlor as a “shadow director” of the property owning company. This present reform seeks to counter the avoidance of an IHT charge by the imposition of an Income Tax charge.
   
• From 6^th April, 2005 a tax charge will apply to the benefit in kind of use of assets formerly owned by the user and transferred to a connected party. The charge will apply to new and existing arrangements.
   
• The brief consultation period raised a storm of objections and exceptions in the following cases have been allowed:
   
• if the property ceased to be owned before 18 March, 1986;
   
• the property formerly owned by a taxpayer is currently owned by their spouse;
   
• the asset in question still counts as part of the taxpayers estate for IHT purposes under the existing Gift With Reservation (GWR) rules;
   
• where the property was sold by the taxpayer at an arms length price, paid in cash, whether or not to a connected party;
   
• the taxpayer was formerly the owner of an asset only by virtue of a will or intestacy which has subsequently been varied by agreement between the beneficiaries;
   
• any enjoyment of the property is no more than incidental, including cases where an out and out gift to a family member comes to benefit the donor following a change in their circumstances;
   
• where an elderly parent shares their home with their child and has passed half of the house to them;
   
• where a taxpayer is resident but not domiciled in the UK, the charge will only apply to their UK assets.

Land is specifically covered in the pre-owned assets provision. It does not appear that non-UK domiciled persons can claim that there is no property in the UK if the property is held by a non-UK company. The provision is worded to catch transfers where the person directly or indirectly provided, otherwise than by an excluded transaction, any of the consideration given by another person for the acquisition of an interest in the relevant land.

A non-UK domiciliary might still benefit from placing the property in which they reside into an offshore company acting as trustee of an Interest In possession trust which is subsequently resettled as a company held by an offshore discretionary trust.

Whilst they reside in the property the (GWR) may in any case prevent the original gift to an Interest in Possession trust being complete and the 7 year period during which the Potentially Exempt Transfer clock must tick will be delayed and not begin to run.
 


CGT Holdover Relief    

• Holdover relief from Capital Gains Tax (CGT) is already broadly available for transfers of business assets or the transfer of assets to discretionary trusts.
   
• Such transfers had various uses including transfers to restart the CGT taper clock for business assets that did not qualify for business asset taper relief; allowing trustees to wait two years for full business taper relief to apply before making a disposal and at the 10% rate of CGT.
   
• Transfers to discretionary trusts themselves trigger tax if the asset is worth more than GBP 263,000 (the Inheritance Tax (IHT) nil rate band) because, beyond that level, a charge to IHT at the lifetime rate of 20% normally applies.
   
• with effect from 10 December, 2003, where an asset is transferred to a trust at undervalue, hold-over relief will be denied unless the settlor and his/her spouse are totally excluded from benefit.
   
• Often a second property of a UK domicile is placed into a UK discretionary trust at a value below the IHT nil rate band and occupied by a beneficiary and thereby securing the (CGT) Primary Private Residence Relief (PRP).
   
• The Finance Bill 2004 provides that in such circumstances either the holdover relief or the PRP exemption on the subsequent disposal by the trustees can be claimed but not both.
  
• For those with UK property already in such situations there are certain techniques to limit the effect of the new rules.

Increase of Trust Tax Rates

• For many years the trusts subject to UK Income Tax and CGT have paid tax at the rate of 34%.
   
• With effect from 6 April 2004, the rate applicable to trusts is increased from 34% to 40%. This applies to—
   
• the income of discretionary and accumulation trusts other than dividend income;
   
• the capital gains of all trusts and estates of deceased persons in administration; and
   
• certain amounts received by all trusts (e.g. gains from offshore funds).

Trusts for the Vulnerable

• Trusts for the vulnerable such as orphans and the disabled will be taxed on the basis of the vulnerable beneficiary’s individual circumstances for Income Tax and CGT.
   
• Trustees will be able to use the individual beneficiary’s personal allowances and lower rates of tax rather than the rates applicable to trusts.