1 IHT
LT makes a CLT on termination of the life interest which is a QIIP… Original settlor remains only settlor. LT provides no additional funds to the settlement. (But see 4 below for the surrender of a NQIIP)
2 CGT
No CGT charge as property remains settled property. Original settlor only settlor as LT provides no funds. (But see ss76,76A, 85 and Sch 4A (disposals for consideration))
3 Income Tax
I would expect HMRC to regard the surrender as a separate disposition and the LT as settlor. The LT would only retain an interest if an object of the DT personally or his spouse was. If his minor children were the rules applying to such settlements would catch distributions to them.
However, the strong counter argument is that the LT did not make the settlement and has not subsequently provided any additional funds to it, as the surrender does not augment the settled property in either quantity or value. So he is not a settlor within any of the categories in s.620(1) ITTOIA 2005. Because a DT follows the surrender it is hard for HMRC to identify it even as having provided income to any person other than the trustees.The original settlor if he is still alive will be taxable on the settlement income if he or his spouse or minor children are objects of the DT but not if the spouse. or minor children of LT are.
An IOV which re-directs an asset producing income or creates a new settlement (as there is no reading back) is clearly a separate disposition which provides funds whereas a disclaimer does not. In my view a surrender is like a disclaimer in that the remainder is simply accelerated by operation of law; the settled funds remain intact. It does not seem of itself to be a “disposition, trust, covenant, agreement, arrangement or transfer” of anything at all. This is why for IHT a pre-2006 IIP, or now an IPDI etc., has to be deemed to cause an IHT chargeable event on its termination pursuant to the fictional beneficial ownership in s49 (1) and (1A) IHTA.
4 A surrender of a life interest in an RPT, although that interest is an asset of the LT’s free estate for IHT (it can be assigned for its actuarial value), is not apparently regarded as a separate disposition causing a TOV. S49 (2) deals with a disposition of a QIIP for consideration but there is no comparable provision for a NQIIP. Such an interest has a market value, so if sold for less there is surely a TOV and if surrendered gratuitously an even bigger one. It is not excluded property under s48 IHTA because it is not a future interest under s47. Life interests are often created and terminated in a DT originally created as such, for income tax reasons. A life interest trust made after 2006 is an RPT and the life interest a NQIIP.
I see the rationale for s52(2) IHTA but that surely is insufficient authority for impliedly removing a NQIIP from the owner’s free estate. Is this another case of HMRC self-legislating without statutory authority? It falls outside of s5(1) only if it falls within both of s5(1A) and s5(!B), a very narrow category of NQIIP.
5 I recall may years ago that HMRC publicly announced that they would no longer comment on whether settlements were caught by the rules. Presumably after self-assessment that is still their position. HS270 makes no mention of the effect of changes to entitlement to income, even though such changes are commonplace and the difficulties well-known, especially for CGT. Do specialist branches of HMRC talk to each other? Although it does not assist much with the counter arguments, it is odd that such detailed treatment as HS270 gives, plus especially TSEM4000 et seq., do not mention such obvious changes caused by exercise of trustee powers or voluntary acts of beneficiaries.
TSEM11100 says:
“Trusts Technical specialists provide advice to HMRC colleagues and do not usually communicate directly with taxpayers or agents, although they may do so on occasion”
How tremendously helpful!
Jack Harper