I have been consulted by trustees of a will trust. The deceased died in 2009 and a share of the estate was left to a great grand child if he reached the age of 25 years (with gift over to another if he failed to reach that age). The great grand child reached 25 years a few months ago and asked the trustees to encash the bond that they had invested the money in. There was a gain when they encashed it but for information had been no income during the lifetime of the bond as they invested for capital growth. The amount involved is well under any IHT levels.
The query is that the accountants that they have spoken to have told them its still a discretionary trust (even after his 25th birthday) so the gain is taxable as income on the trustees and the beneficiary can’t claim any of the tax back. I was thinking that since the contingency was met by the beneficiary on his reaching his 25th birthday the interest became automatically vested at that date so would be a CGT chargeable event on his birthday for which holdover relief could be claimed by the trustees. Thus when the trustees later encashed the bond at the request of the beneficiary at that stage it would be taxed on the beneficiary not the trustees as he was then absolutely entitled to it?
Any help would be appreciated to ensure that it is dealt with in the correct way.
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It seems to me that the starting point must be to have a proper understanding of the terms of the will – did the beneficiary’s interest vest absolutely at age 25, or is the trust property subject to a continuing trust notwithstanding the beneficiary having attained age 25.
Paul Saunders FCIB TEP
Independent Trust Consultant
Providing support and advice to fellow professionals
Thank you for responses.
The wording in the will is:
as to one sixth thereof for **** upon his attaining the age of 25 years provided always that should he predecease me or not attain the age of 25 years I give such share to *****
I gather all other beneficiaries were of age so his was the only part in trust.
The accountants are not sure why they think what they think to be honest which isn’t assisting me.
On the basis of the wording quoted, on attaining the age of 25 the beneficiary became absolutely entitled to their one-sixth share.
Unless there is another provision in the will affecting the share, I cannot see how a discretionary trust is imposed upon the share once the beneficiary has attained 25 years.
Mindful that gains on bonds can be taxed as income and the liable tax payer is not always who one might expect it to be, I might look to the likes of Jack Harper or Malcolm Finney for a view, if they are willing or available to comment.
Paul Saunders FCIB TEP
Independent Trust Consultant
Providing support and advice to fellow professionals
Richard, I believe it is the accountants who have said it is a discretionary trust, and it is their advice which is being questioned. For that reason, on reading the quoted wording from the Will, I must confess that I disregarded that statement in my own analysis, and I agree with Paul Saunders.
Is this question repeated?
I agree this is a contingent legacy with a gift over and vests absolutely on the beneficiary attaining 25. The only trust in sight is the bare trust that arises on vesting pending payment/transfer of the asset. The administration period does not come to an end as regards this gift, and any investment made in support of it meanwhile, until vesting or failure of condition. During the admin period no trust subsists in any asset still subject to administration.
The charge is on the PRs if the chargeable event occurs during the admin period but the amount chargeable does not become chargeable as “estate income” because the contingent gift is not an interest in residue: s.466(1)(3) ITTOIA. Income during the admin period to which a specific legatee is entitled is taxable on that person unless utilised by the PRs to pay debts.
This is not income on general principles so you cannot apply the rules for income such as interest or dividends from a contingent legacy. A chargeable event gain is a creature of statute. It cannot be taxed unless there is an applicable charging provision. Can the legatee be charged? Is he an individual “beneficially entitled to to the rights under the policy”? I think not though he may clearly has an equitable interest. Arguably the PRs are chargeable under s466(1) in their representative capacity but only at basic rate. The other possibility is that no one is chargeable. Good luck with that argument!
As one who was dually qualified I see both lawyer’s and accountants’ perspectives on tax but some accountants are not good at applying their considerable tax knowledge to problems requiring preliminary analysis of underlying legal concepts. The accountants’ view here was just wrong.
It is too late now but I think it might have been preferable if the trustees had assigned the bond to the beneficiary who may have allowances which the trustees do not have in relation to the gain. Indeed the beneficiary may then have been able to encase part of the bond on an annual basis in order to limit the liability.
I recall doing something like this in a trust that had come to an end and was advised that that was the preferable way forward.
Jack, although not strictly on the point of the original post, I am curious about your statement that the administration period has not ended in relation to this gift. I assume this statement envisages the situation where a will contains a contingent pecuniary legacy which does not carry the intermediate income, but I do not believe that is the case here. My understanding is that this is a gift of a share of residue, where the trustees made the investment with cash released from the estate for that purpose, and in these circumstances I don’t see how the gain could be chargeable on the executors.
There seems to be a general acceptance amongst contributors that once the beneficiary reached 25 this became a bare trust, and I still believe that as the gain arose after he reached 25, it is taxable on the beneficiary notwithstanding that there was no assignment of the bond. HMRC state at TSEM3210 that “Chargeable event gains of a bare or simple trust are chargeable on the beneficiary including a beneficiary who is a minor with an absolute interest.”
This is a pretty straightforward statement, which I believe is supported by an analysis of the legislation, and which seems to apply in this case. I should be glad to hear if there is anyone who agrees with me, or indeed if there is anyone who disagrees.
Apologies to all especially Daniele. I answered the wrong question. It is indeed a contingent gift of a share of residue and the chargeable event did occur after vesting. As you say Diana, a bare trust operates pending discharge and satisfaction by the PRs and the tax charge is on the beneficiary as an individual with credit for basic rate (assuming not a foreign policy) and top slicing if he is a higher rate taxpayer. The administration period does continue until vesting but ends then. Had the chargeable event occurred before vesting it would have been estate income. So fairly straightforward if you get the analysis right and I didn’t.
I was probably mesmerised by the treatment of a contingent pecuniary legacy and a chargeable event before vesting which is more fascinating. That gives rise to an apparent anomaly that although the PRs can be charged “in a representative capacity” there appears to be no credit for basic rate tax under s530 as they are neither individuals nor trustees nor can they be charged to tax at other than at basic rate. So is basic rate chargeable under s11 ITA 2007 without credit? Tax is charged on chargeable event gains arising in the tax year in which the event (strictly the end of the insurance year) falls. If the legacy vests in that year the legatee would seem to be chargeable as an individual but not if it vests in a later tax year. The legatee surely cannot resist deduction of the tax from his legacy if it was due and paid by the PRs.
The contrast with the position of “proper” income is marked. If the contingent legacy of a specific asset carries the intermediate income (the default position under s175 LPA 1925) then the legatee will be taxable on it as it arises (because “entitled to it”:TSEM 9310) subject to s.31 TA 1925 if a minor, as long as not disapplied or varied, or if a direction to accumulate prevails: s69(2). A policy gain is not such income but capital taxed as deemed income by a statutory code which must be strictly interpreted (as we know from the Lobler case).
So I turn my wrong answer into a question. Do members agree with my analysis in paragraph 2 that if the gain arises in a tax year before the legacy vests the beneficiary cannot be charged as an individual (he has an equitable but not a beneficial interest) but the PRs can be, and at basic rate with no credit? If so HMRC may be sympathetic, if the legatee is a basic rate taxpayer, but given their insistence on the letter of the law with Mr Lobler their hands would seem to be tied.
I have only just read this post and believe the accountant’s advice as outlined by Daniele is incorrect.
On satisfaction of the contingency the bond at that point vested and was then held on bare trust pending transfer of the bond. Any chargeable event gain arising on or after the vesting date is that of the inheriting beneficiary (not the bare trustee).
The gain is subject to income tax at the beneficiary’s marginal rate (not basic rate assuming a UK bond). If an offshore bond, the rates applicable include the 20% basic rate.
With respect to Jack’s question:
“So I turn my wrong answer into a question. Do members agree with my analysis in paragraph 2 that if the gain arises in a tax year before the legacy vests the beneficiary cannot be charged as an individual (he has an equitable but not a beneficial interest) but the PRs can be, and at basic rate with no credit? If so HMRC may be sympathetic, if the legatee is a basic rate taxpayer, but given their insistence on the letter of the law with Mr Lobler their hands would seem to be tied”.
a chargeable event gain arising pre the vesting would be chargeable on the PRs and subject to income tax at 20% on an offshore bond but nil if a UK bond (ITTOIA 2005 s 466 dragging in ss530/531).
Following any distribution of the proceeds to a beneficiary the latter is subject to income tax at their marginal rate with an offsetting 20% tax credit.
Not often I disagree with Malcolm Finney.
I do not see how he reaches the conclusion in his final paragraph. The chargeable events regime is a self-contained statutory code whereby capital (on general principles) is deemed to be taxable income. General principles applying to income and the way it is taxed cannot be applied by analogy. Deeming can always result in strange outcomes and some which the draftsman has completely failed to cater for. This area of tax law has received scant treatment from commentators; one major practitioners’ volume on income tax has no chapter devoted to it at all!
A contingent non-residuary gift does not fall into s466 (3). It is not estate income so cannot be charged on the beneficiary, before or after vesting, as he does not have any kind of interest under s650. No absolute right to capital under (1) and his entitlement to income has no relationship to ascertainment of residue or its timing so not limited under (2) either.
The contingent donee can be charged only, if at all, under a charging provision in the deeming regime when the PRs transfer to him what is capital for the law of succession. What is that provision? If there is a charge then I agree a credit for basic rate may apply under s530 (1) which only applies to individuals or trustees (which PRs as such are not) and to PRs of a deceased individual under (5). He simply does not have a chargeable “beneficial” right under ss464 and 465 in any tax year in which a gain arises during no part of which his contingent right has vested.
s466 seems to read that unless the condition in (2) is met, principally the bond is foreign, under (1) PRs can be charged in a representative capacity but under (3) only if the event gain is estate income. The other view of it is that the words “see section 664” are directory and where not relevant the gain is charged by (1) on the PRs. As they are not individuals they can only be charged at basic rate and it is clear beyond doubt that they are not entitled to credit because s530 nowhere so provides. The fiscal deeming cannot make the subsection (1) charge income of the beneficiary without a specific charging provision to that effect: PRS may be chargeable in a representative capacity but there is no general principles link to the beneficiary’s entitlement in a way that would operate with real income. If the gift vests the link is made but this could be many years after the gain arose.
I believe that the draftsman and those instructing him overlooked this kind of beneficiary. If an event gain arising before vesting is chargeable on him what happens if it never vests?
I have no doubt that HMRC and a judge will try to make it up (e.g. beneficial includes non-beneficial like mock-turtle soup is turtle soup fiscally) but Lobler shows that this may be a fiction too far even for their elastic exegeses.
Following on from Jack’s last comment, my understanding here (and assuming the admin. period has ended and the PRs are then acting as ongoing trustees of the legacy) then, pre-vesting, the income will be taxed under the relevant property regime at higher trust rates (subject to s.31 TA 1925 applying from 18). In that case, chargeable event gains subject to 45% tax charge with a 20% unrecoverable tax credit for onshore bonds.
Post vesting, I agree with Malcolm.
It is for that reason that, pre-vesting, the advice is to assign bonds from relevant property trusts to the beneficiaries as it enables the gain to be taxed at the basic rate with the tax credit appropriately offset. Trustees might conceivably be criticised for incurring a trust rate income tax charge that can’t later be recovered when appointing income to the beneficiary.
Sorry Alex. Insurance policy gains are not actual income but deemed income. s31 TA 1925 has absolutely nothing to do with it. A charge must be found if at all within the chargeable events legislation. If you can’t find a charging provision in there somewhere then there is no tax charge because on general principles the entire receipt on vesting is capital.
Interesting, thanks Jack (especially re s.31). I am sure bonds are taxable at trust rates though unless otherwise assigned out. Tech Zone has good summary of this (although I will leave it to brighter minds than mine to track down the section numbers!).
We do not know about the nature of the gift over or the trustees’ powers e.g. any power of appointment. s32 TA 1925 may well be available unless varied or excluded. Trustees would need to consider carefully before advancing to anyone within the ambit of s32 and defeating the testator’s intention as to the condition and the gift over, on an advance to the contingent beneficiary, or defeating his prospective entitlement, on an advance to anyone else entitled under the gift over.
These deliberations would not be restricted by the particular nature of the asset invested to answer the bequest but as you say trustees who precipitated a tax charge on a policy gain which did not need to arise if nothing were done would need to take that issue into account as part of their overall decision-making.
The section numbers are totally crucial here. A summary really doesn’t even seek to deal with this conundrum.
Apologies re my earlier post seeking to respond to Jack’s query. My response (not sure why) dealt with the position of a contingent residuary gift not a contingent pecuniary gift to which Jack’s query relates.
Jack raises an issue concerning a contingent pecuniary legacy which vests in the legatee on attaining age 25 and a chargeable event gain which arises before the legacy vests.
If at the time the gain arises the legacy has not vested then the legatee cannot be subject at that time to any possible income tax charge on the gain; such legatee possesses at that time no beneficial rights in the policy.
ITTOIA 2005 s466 provides that the PRs are liable in that capacity if subsections (a) and (b) are satisfied which in principle apply assuming the bond under discussion is a foreign bond. If a UK bond, subsection (b) is not satisfied in which case it is necessary to examine s664 (as provided under subsection (s466(3)); under s664 liability arises assuming the gain qualifies as estate income |(s664(2)(e)).
However, a notional basic rate tax credit may apply for offset against any income tax liability ie certain persons are treated as having paid basic rate income tax on the gain. No such credit is available if the gain arises on a foreign bond, only on a UK bond (s530).
S530 is also clear in providing that no notional tax credit is available, even on a UK bond, for PRs, only trustees and individuals.
Any notional tax credit is not repayable.
“Do members agree with my analysis in paragraph 2 that if the gain arises in a tax year before the legacy vests the beneficiary cannot be charged as an individual (he has an equitable but not a beneficial interest) but the PRs can be, and at basic rate with no credit?”
In short, “yes”.
There seems to be an assumption by both Jack and Malcolm that the legatee is entitled to the income (and capital appreciation) on the funds invested to meet the legacy.
However, often a contingent legacy is a gift of the fixed sum when the legatee attains the specified age, and no more, with any income and capital gains in the meantime being treated as those of the residuary beneficiary(s).
A typical such legacy would be “£1,000 to Jack upon his attaining the age of 25 years”. It would seem to me that in such cases the chargeable event would be attributable to the residuary beneficiary(s) and have no impact upon the legatee.
Paul Saunders FCIB TEP
Independent Trust Consultant
Providing support and advice to fellow professionals
I take the point. I had been assuming that the admin period might have ended save as regards the contingent gift and the policy invested and retained to meet it. The operative question will always be whether an individual has a beneficial right to the policy or to the residue of which it forms part (assuming as the statute directs that residue has been ascertained).
If the executors have to pay a fixed sum of money the contingently entitled beneficiary would seem to have no interest whatsoever in the policy but then apparently nor would anyone else (if no other assets left) and the executors are not “trustees” at least not until the policy is surrendered.
So if the only asset left is a policy and it is surrendered before the contingency is fulfilled there might be a theoretical entitlement to residue (if a surplus over the fixed sum was produced) but it would be harsh to interpret the rules to tax the whole gain as estate income since the residuary legatee would only be entitled to part of the proceeds and then only to a contingent amount. As the proceeds would have to be invested pending the contingency nothing might ever be received in residue if these fell short. Presumably executors will strive to avoid that if they have otherwise distributed in full and the bond as a safe investment may represent that strategy. So a surplus might be built in by design.
The policy gains rules have no concept of wait and see, apart from determining entitlement to residue as if it had been ascertained when the gain arises. If at that time it seems likely that the proceeds will all be needed to meet the contingent gift the notional ascertainment of residue is arguably nil. While a tolerable result might be to tax according to who finally obtains the surrender proceeds the rules have no mechanism to postpone that calculation to a tax year after that in which the gain arises.