Real Settlor Query

Where a Trust Deed has been made by two persons (A and B) settling a property into a trust, but that property was owned by another person very shortly beforehand (C), who is considered the actual settlor? Would it be all of them, both directly and indirectly, going by the IHTA84/S44 (1) definition?

Particular quirk here is that A and B are also beneficiaries, as is C who transferred the property to A and B originally. So my second question becomes if A and B are not considered settlors as they were transferred the property shortly before settling it into the trust, but C instead is solely, does that mean the settlor-interested conflict is removed in the case of A and B?

If C made a transfer of an asset to A and B with a view to their settling the asset then C is the settlor by making a disposition by associated operations. Any kind of prior agreement among the three would settle it. If there was and they deny it and the denial is later proved to be false they may be in more trouble than just the plan not working. Punters often naively overlook that they may ultimately have to face the threat of a Tribunal hearing and run the gauntlet of perjury.

Logically A and B cannot also then be settlors unless they too have provided additional funds. If C is a beneficiary it will be a GROB.

You only say of C’s prior transfer that it happened “very shortly” before. That is very unhelpful but it is not only a matter of timing. What were C’s precise motivations in entering on these apparently odd roundabout machinations? If I were HMRC I would view this as some kind of Readers’ Digest level tax avoidance and ask them to pull the other leg, though in HMRC 's case both legs have bells on.

If lay clients came to me for advice in advance I would warn them of the risks of proceeding and try to find an alternative. If they came to me with the finished job I would initially treat them as I would a possible new client who might have or even clearly had undertaken evasion or was contemplating it. They would need to repent for me to assist. Some are genuinely naive or very badly advised and they should be persuadable to do what is right; but some are incorrigible and should be shown the door. The risk for the adviser is that as HMRC pursue their enquiries the true story will unravel and the adviser will be suspected of being an active participant in the imbroglio.

Jack Harper

Thanks for the detailed reply Jack, much appreciated.

It’s a trust deed made a long time ago, so I am not certain what the logic behind it was, other than, I think, the old asset protection trust to avoid care fees approach.

To just follow on from your point then, does your answer to my first question mean that the answer to my second question is yes do you think? The conflict for A and B as beneficiaries is removed as they are not actually the settlors?

There is no bar to a settlor or a trustee being also a beneficiary. The first is unusual simply because of the IHT and income tax consequences but the latter is commonplace where two to four family members are trustees of a trust for other family members and themselves. The settlor may be a trustee of a lifetime trust and/or have powers of a fiduciary nature e.g. to appoint a new trustee or the right of consent to the exercise of trustee powers.

Potential conflict is not about status but about facts. And it is a trustee not the settlor who is likely to be conflicted.So it is desirable for the trust to have provisions designed to manage potential conflicts because the basic equitable rules are sometimes irritating, even counter-intuitive. This derives from their formulation largely to restrain trustees not also being beneficiaries from indirectly benefiting.

The STEP Standard Provisions 3rd seek to do this in Provision 8 (9 in 2nd Ed). I preferred to widen these to avoid the expense of an Independent Trustee having to be appointed. 8.4.2 does not cover a replacement trustee but I think it should if the new trustee is, broadly, a family member of whom the settlor does approve or would have if living. For instance another sibling if ony two were originally appointed.

Your trust deed was “made a long time ago”. One wonders what else is in it apart from the the new addition and who settled that. The idea that anyone should put a new property into an old trust that happens to be lying around is as unappetising as the suggestion often made that a valuable asset should be transferred into an old group company that has been long dormant. The first question is whether it is an addition or a new trusts with identical limitations to the old one. A settlor can be a beneficiary and an appointment to him does not give rise to a conflict unless he is a trustee, in which case 8.4.2 would apply if he was originally appointed. If he is not a beneficiary the no appointment can be made to him, directly or indirectly, without breach of trust, whether he is a trustee or not.

So if A and B are not settlors, and even if they were, a conflict would only arise if they were also both trustees and beneficiaries. But your scenario of a new asset being settled on a very old trust, which may or may not contain property, is a cat’s cradle which I can’t disentangle on the information given so far.

Jack Harper

Sorry may have got wired crossed here. There is no old and new trust. There is an old trust made 15+ years ago, in which a property was settled from the start (transferred to A and B from C) in the way I have described.

So my question is specifically on those tax consequences. My question being that if A and B are indeed not deemed to be the settlors (instead C is), then do those negative settlor-interested tax consequences for A and B not apply, since they are in fact not the settlors but remain beneficiaries.

I am stil confused. Can you set out the events on a step by step basis?

Jack Harper

Of course.

Settlement made 15+ years ago by person A and B, in which property is settled at the start. Property which was, shortly before settlement, owned by person C but transferred to A and B.

Persons A, B and C are all beneficiaries of the settlement, C given a life interest in property.

So my question being if person C is considered the indirect settlor of the trust by associated operations as you mention and not A and B, does that mean that the settlor-interested tax complications do not apply in the case of A and B (as they are not in fact to be considered settlors)?

Personally, I think that ‘step-by-step basis’ means setting out events in the order in which they occurred. The first step seems to have been the transfer of property from C to A & B. How should this step be described? A sale at market value, an absolute gift to A & B, a transfer into settlement, part of a a homemade tax avoidance scheme or is it something else?

Based on what has been said, C must be the Settlor and as he has a life interest, it is a settlor interested trust even though A and B may be described in the deed as the settlors. However in reality, they were not.

Although 15 years have elapsed since this was done, it, in my view, would not avoid the nursing home charge, if it could be shown at the time that there was every prospect, due to his state of health at the time, of C needing to be admitted to a nursing home. Whether the local authority on behalf of the state, would want to pursue it is another matter but the trustees would, if asked, be under an obligation to disclose the background to the trust being set up.

Patrick Moroney

It is also a GROB for IHT. It may even be a RPT depending on whether or not the property was added by C before March 22 2006. It is a settlor-interested settlement for income tax and CGT. This status has distinctive tax consequences as to reporting compliance and ongoing trust management. This is not the place to set out a lengthy dissertation: it requires research by a professional or advice to a lay person. It is a bit like the fictional degree paper question “The law of Tort. Discuss”.

I would make a general point about queries on here using this as an example but not singling out the particular questioner as it is a common problem. We often get something close to the fabled instructions to Counsel: " Counsel has herewith the file. Counsel is instructed to help".

We are all used to extracting relevant facts from some clients like teeth and reformulating their questions so they get the answers they really want. This is part and parcel of the professional relationship. But this Forum is not the right medium to conduct this operation.

Queries should not be so truncated as to leave open to our speculation what all of the relevant facts and chronology may be and what key documents actually may say.

Patrick speculated whether the purpose was deprivation of assets. The initial question was a narrow one about who is the IHT settlor and about conflicts of interest, unanswerable without the details. The supplementary was about the “tax consequences” to which I have made a succinct reply above, not meant unkindly. Not only is a self-settlement a very distinctive and unusual animal, the details provided to date are too few for a non-speculative response. Ideally I would know why the trust was set up and what advice if any was given, the details of the trust limitations, what action if any is being considered, and the trust property and the beneficiaries and their relationship to the settlor. These would be essential contents of any instructions to Counsel.

Of course some questioners may only need to ask a very narrow question, which may not justify setting all that out. But the more wide-ranging the question the more details are needed for a sensible answer.

Jack Harper

Hi Patrick,

Thank you for your reply. I’m not so worried about the point in regard to nursing home fees, the whole trust seems like a very obvious attempt at deprivation so I don’t think it would stand up for a second in that sense anyway.

All I am trying to get at is that if A and B are indeed not the settlors, then there is no GROB in their specific regard, only C’s. Additionally, yes the settlement is settlor-interested and the tax implications that has, but again if the sole settlor is actually C, then that is only in respect of C, not A and B. That is what I draw from C being the true settlor and what I am trying ask in regard to, but I can only apologise if I am not being clear enough.

Although it seems logical that if C is an indirect settlor A and B are not settlors, the starting point is that a settlor is any person who has made the settlement i.e. is named in it as settlor. How much, if anything, each has settled is irrelevant. If A and B are named in the Trust Deed as settlors then they are such for all tax purposes as the law of each tax makes very clear. Needless to say, those who made the law have not had the foresight or IQ to except a contribution of a minor amount or nothing at all.

While the law related to the three relevant taxes and HMRC Manual commentary do not deal consistently or satisfactorily with the problem of multiple settlors, no issues will arise in practice if A and B have done no more than provide a small cash sum, or nothing, as the initial trust fund. (But if HMRC ask who are the settlors they must be included in the answer)

This will generate no income to be taxed. But strictly a settlement made by a single trust deed is a single entity. If the settlor is a beneficiary and retains an interest unless that interest is limited to a distinct part of the trust fund he is taxable on the entire trust income. HMRC say a case of a “distinct part only” should be referred to Technical:TSEM4200! Fortunately HMRC also state in TSEM4555 that they will apportion the income. As Manual contents can be disclaimed by them, it seems that this is not a concession but rather to be good case law. The same dilemma faced the House of Lords in the Vesty case and they agreed with apportionment to avoid multiple tax charges under a different provision (now corrected by s743(2)). If income is produced by investing the cash sum there is strictly (and ludicrously) no de minimis (compare the £100 in parent-child settlements:s629 ITTOIA). HMRC will doubtless ignore some unspecified low level amount but the taxpayer would be well-advised not to pre-empt that by non-disclosure.

CGT is rather different as regards a resident settlement because the trustees are the chargeable person not the settlor. The identity of the settlor is defined in ss 68A-C TCGA 1992. Again although s68A(1)(b) includes a settlor who is merely named as such, his contributing a small initial cash sum is unlikely to produce gains. This would be relevant in theory for the annual exemption and here HMRC are very clear about whether multiple settlors have created one or several settlements:CG33220, 33280 and18096. s169E is much more sensible in denying hold-over relief only to “property originating from” each settlor, though gains will not arise if the property settled is and remains cash.

IHT s44(2) is helpful in deeming each settlor to have made a separate settlement and FA1986 makes any reservation subsist only in the subject matter of the gift, subject to tracing.

We are not told what A and B settled but if it was only an initial cash sum there will be no significant problem for them in practice. It would be wrong however to say that they are therefore not settlors at all. The law of all three taxes clearly makes them so even if they have contributed nothing to the trust (as in one of my pilot trusts). HMRC have given no indication of their practice e.g. in CG18111 the most apt location. As this exemption is now vanishingly small it constitutes just a very crass overlooked compliance Gotcha. The annual exempt amount for trusts being a major area of tax avoidance. All over the country naughty people are fragmenting their property into hundreds of trusts regardless of costs (and myriad TRS registrations) to multiply an exemption of £600 per trust. I have never met anyone who has. This is an example of Government and HMRC paranoia, based on their ignorance and detestation of trusts.

Jack Harper

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Thank you for you time on that reply Jack, that is extremely comprehensive.