Lending an investment bond out of a trust


I have been instructed by the trustees of a Discretionary Will Trust that contains a Prudential Investment Bond. They would like to lend the total contents of the trust to two of the discretionary beneficiaries. This would result in the Bond being assigned to their names, and them owing the value back to the trust.

Would such an arrangement create a capital gains tax liability for the trust, or indeed any other negative implications?

Thank you.

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Investment bonds are taxed under the chargeable event legislation and are subject to income tax. If the bond is assigned to the beneficiaries and they surrender it in their own name the “profit” will be taxed at their marginal rate of income tax. If it is an onshore bond there will be a notional credit tax given.

Consideration needs to be given to lending one type of asset (the bond) and receiving another type (cash) back. Is this possible? Can the loan agreement and trust cater for this? Also the trustees have a duty of care to all beneficiaries so they need to consider whether the 2 beneficiaries have the ability to repay the loan, and if it is interest-free they need to consider that holding a non-earning asset reduces the trust fund. Is this detrimental to the remaining beneficiaries?

Finally if the loan is interest-free are the trustees making a distribution to the beneficiary of the foregone interest? This could have IHT implications.

Kim Jarvis

I would add the points raised by kimjarvis here i.e. you need to check the Trust Deed permits such a transaction

I contacted a life company technical with exactly the same questions, a repayable loan of policy segments to a beneficiary. I was focusing on tax

It basically does not work as hoped for tax that being the policy segments loaned gain being taxed at the beneficiary’s income tax rate as the loan is an assignment for money or money’s worth, not a gift as a normal assignment and appointment out of trust. The trustees might as well have surrendered the policy segment paid income tax due on any gain 45% and then lent the proceeds to the beneficiary. I suppose it helps the tax pool and an income distribution could happen and the tax reclaimed at the beneficiary’s marginal tax rate.
In practice policy segments might be incorrectly assigned as gift and a separate loan agreement drawn up and nobody is the wiser regarding tax as the policy was surrendered while owned by the beneficiary.

My questions and The life company’s replies are below.

1, Loans of Bond segments to beneficiaries is it possible?
Ordinarily a policy loan to a beneficiary would be an assignment for money or money’s worth and classified as a chargeable event falling to the trustees and on that basis would not be tax efficient.

2,If Trustees loaned a bond segment to a beneficiary via assignment, what would the loan principle be based on The Bond segment before a Chargeable event calculation at the beneficiarys marginal rate of income tax or after value after income tax?

Market value of the segment at the time of the policy loan, less the trustees tax on the chargeable event gain. Net proceeds would constitute the loaned amount.