If a beneficiary varies their entitlement to an estate by deed of variation to leave their share to a discretionary trust, with the original beneficiary being named as a potential beneficiary of the trust, would the trust (1) be a GROB for IHT purposes and (2) be settlor-interested for CGT and Income Tax purposes?
No to both, I believe (SI by default?) (IHTA84/S142) applies. See IHTM42227
Where a discretionary trust is set up under an instrument of variation (IOV), the trust is treated for Inheritance Tax purposes
- as having commenced at the date of death, and
- the deceased is treated as the settlor.
Income Tax and Capital Gains Tax purposes the settlor is the person making the variation (rather than the deceased) and the date of commencement is the date of the variation.
Richard Bishop
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Richard, many thanks for your comments. This was traditionally my understanding of the position, but when researching the matter I came across section 68C of the Taxation of Chargeable Gains Act 1992, which treats the varying beneficiary as the settlor where a trust is created by deed of variation. This would mean that the trust would be settlor-interested, which in turn gave rise to the idea that the variation may actually be a GROB. Iām twisting myself in knots!
Hi Sam, it is my understanding that the deed of variation should state whether it is to be effective for IHT or CGT or both. That is to say it may or may not be effective for CGT depending on how it is worded. The result should be effectively that the deceased is settlor for IHT purposes, the person creating the deed is settlor for income tax purposes and the person creating the deed may or may not be settlor for CGT purposes depending on whether the deed indicates it should be effective for CGT. Should not be GROB. I am not sure that there would be any practical implications for CGT purposes and the trust will be liable to CGT at trustee rates anyway (CG34700). Where a trust is settlor interested for CGT purposes it does mean holdover relief isnāt available - but i am not sure how that would be relevant? (always happy to be educated if have not considered or misunderstood something)
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I think that s472(3) ITA 2007 says who the settlor is for income tax with a deed of variation: Income Tax Act 2007
As Sam mentions, s68C TCGA 1992 is the CGT version: Taxation of Chargeable Gains Act 1992
I think Barry is right that the DOV should say whether it is effective for CGT (see s62(7) TCGA).
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Many thanks Barry. So as long as we have a s62(7) election in the DoV we donāt need to worry about the provisions of s68C?
Excellent, hadnāt been able to find the relevant provisions for Income Tax. Very useful, thank you.
I think it is most unfortunate that the IHT and CGT positions are not consistent.
The CGT consequences of a variation with reading back originated from a House of Lords decision in Marshall v Kerr. Robert Venables KC has a critique at https://khpplc.co.uk/wp-content/uploads/2024/09/oitr-vol-7-1-3-what-did-marshall-v-kerr-decide-robert-venables-q-c.pdf.
Their Lordships, with their customary tunnel vision, were so determined to find against the taxpayer in the case before them that they created this wider inconsistency. They held that the settlor of the newly-varied settlement was the UK resident taxpayer and not the non-UK resident deceased. This prevailed from 1994 (though it also applied retrospectively since court decisions are declaratory, so affected some previous variations) until 2006 when HMG/HMRC decided to codify the rules on the identity of a settlor in ss. 68A-C TCGA. The article above quotes the contemporary public pronouncement of the then Capital Taxes Office that the rule for IHT reading back is different: the deceased is the settlor if reading back is elected so no GROB by the person varying who is a beneficiary of a trust created by his variation. The Authorities at least resisted the temptation to make the IHT position the same as CGT! The case is a prime example of the bull-in-a-china-shop effect of judicial legislation: traditionally judges only decide a case on the basis of the facts and evidence before them and disavow entirely any responsibility to pay heed to any wider repercussions. Under our system it is for Parliament to deal with those, here 12 years later.
A key consequence before 2008 was that a resident settlor was chargeable on the gains of a settlor-interested settlement but ss77 and 79 were then repealed. As Barry says the trustees are now chargeable so the main consequence nowadays seems to be that hold-over is affected; in the future though not by the variation itself as it will not be a disposal provided reading back is elected. If there is no reading back of course then there will be a disposal and perhaps a gain which could not then be held-over per ss169B-G. Hold-over would be precluded anyway for a non-business asset under s260 if the disposal was not a chargeable transfer for IHT; it would not be if reading back were elected for IHT. Settlor-interested status of course persists as a potential nuisance into the future if another disposal is made to the trust or the trustees make one
There is no reading back for income tax. The āsettlementā provisions cannot apply to a dead settlor but a variation can cause a living person who makes it to be a settlor of a settlement thereby created and so be taxable on income from it per those provisions: see TSEM4000 and 1815.
Jack Harper
s68C applies where an election IS made for reading back under s62(6) so that the person who makes the variation is the settlor. If there is NOT a reading back election he is still the settlor but under s68A. s62(6) in general ordains that the variation is not to be a disposal given reading back but remains a disposal for this one purposes of identifying the settlor. Result: a person who creates a settlement by a variation is always the CGT settlor whether reading back is elected or not. He is only the settlor for IHT if reading back is not elected; if reading back is elected the deceased is the settlor for IHT. The election for each tax is a separate facility; either election made be made alone, or neither, or both.
Jack Harper
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Excellent and very detailed response Jack, thank you so much.
I understood that for IT purposes the settlor is the original beneficiary.
So a ātrapā in that for IHT they are not the settlor, no GWROB.
But for IT purposes settlor interested, so income taxable on the āIT settlorā, if any income arises.
For income tax the person who makes the variation is the settlor if his variation is a āsettlementā TSEM4000, especially 4100-4120. HMRC 's view is that Marshall v Kerr applies for income tax: TSEM1815. As there is no reading back the usual drafting practice is to allow the income arising before the date of the variation to be taxed without any diversion. If the variation diverts income subsequently arising then that income could be taxed on the settlor of the variation. The variation may not divert income but as a even a simple transfer of assets can be a settlement under s620(1) ITTOIA the rules can catch a transfer of an income-producing asset or of funds then invested for income. So his setting up a trust proper is not always essential but see below.
If the resultant income is his own he will be taxed on it direct but s626 may tax his spouse and not him. A transfer to his minor children will only catch income āpaidā to such a child: s629. If s31 TA 1925 does not apply, so a minor child is taxed on the arising basis using his PA, it seems that the rule will not apply even so if the income is not āpaidā to the child; that will only be possible if there is a trustee albeit a bare trustee who can withhold payment.The capital sum rules in s633 however do require trustees as a third party payer. Trustee is not defined but in its ordinary meaning surely means a trustee of a valid trust in law so not a person who takes a transfer of an asset as beneficial owner.
Jack Harper
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