Trusts Archives - London Chartered Accountants Blog | Goodman Jones London Accountants

In 2019 I blogged about the increased use of family investment companies (FICs) and leading up to the March 2021 Budget, the enquiries about FICs increased even more. Since then I have seen a further increase in the enquiries about FICs. I therefore thought it useful to summarise the common threads running through these enquiries.

Family Wealth Preservation

FICs are a solution primarily aimed at family wealth preservation. Until 2006 the usual strategy to preserve family wealth would have been the trust, but tax changes since 2006 have made the use of a trust less attractive.

Benefits of Trusts

The primary benefit of a trust is the ability to separate ownership/control of an asset from the income that it generates. The trustees retain control of an asset (say, a rental property) but are able to divest themselves of the income it generates (i.e. the rent). This separation allows the beneficiary to receive annual income (the rent) without the right to sell the property. The difficulty that beneficiaries have in influencing the disposal of the asset means that it is likely to be retained and the income benefits many generations. Contrast that with a generation who own an asset outright. They may sell that asset which denies subsequent generations of the income which the asset generates.

A trust is therefore ownership of assets by certain persons with instructions as to how to use those assets and who should benefit from the monies that the assets generate. Whilst the trustees may own the assets, the person who sets up the trust (the settlor) can retain influence over the operation of the trust. This may be because they are a trustee or because the trust deed gives the trustees wide ranging discretion, and the trustees would consider the wishes of the settlor when exercising their discretionary powers.

FICS vs Trusts

A FIC can operate in a very similar way. A typical FIC will have the founding generation (akin to the settlor and trustees) retaining controlling rights over the assets that the company owns. Those controlling rights may be due to specific terms of the Articles of the company or due to rights attached to a class of share that these persons possess.

A typical trust will have beneficiaries who benefit from the income that the trust generates. The FIC will mirror this by issuing classes of shares with different income right to different persons. This allows the income that the FIC generates to be distributed to those persons in accordance with the overall wishes of the family.

It is common for wealthy families to own shares in companies. As such these families are comfortable with the processes and obligations associated with company activity. They may not be so familiar with the trust equivalents. Perhaps this is a further reason why FICs are popular.

Trusts often employ professional trustees who come at a price. Assuming that the family are familiar with the operation of a company then many of the FIC equivalent actions of the trustee can be undertaken by the family at no (or low) cost. This appears to be another reason why the FIC is popular.

The Tax treatment of Trusts and FICs

Trusts are subject to tax and, in many cases, subject to the highest rate of income tax. Tax changes since 2006 have made trusts less attractive.

Companies are often subject to lower rates of tax than trusts and dividends received by companies can be subject to no tax at all. The low rate of tax in a company, compared to the trust equivalent, is certainly a perceived attraction of a FIC.

FICs result in tax on individuals at a time that there is a dividend payment to the individual. If the FIC chooses to retain income, for example to invest in more assets, or simply chooses not to distribute income then the shareholders are not subject to tax. A trust can result in beneficiaries suffering tax charges even if they do not receive money out of the trust. The greater correlation between individuals receiving income and having a tax liability, and the lower rates of company tax compared to trust tax are other perceived benefits of a FIC.

In summary the operation of a FIC can closely mirror that of a trust. If the wealthy family are familiar with the operation of a company, then they may lean towards a FIC as being a better fit for the family. Both FICs and trust pay tax. It is conceivable that the overall burden using a FIC is lower than that of a trust.

Is a FIC right for you?

As with all structuring detailed advice should be obtained based on the specific facts and circumstances of the family, and its long-term desires. This may lead to a FIC being proposed or alternatively a trust may be the ideal solution notwithstanding the risk of increased tax costs and of the possibility of greater running costs.

Typically, the detailed advice will understand the family’s long-term desires and consider the asset classes which are to be put into the FIC. This will lead to tax planning at the outset and advice about the tax consequences at every stage of the FIC’s existence and operation. We will also identify the need for bespoke Articles of Association, variations to classes of share capital and any employment contracts for family members working to run the FIC. Each of these matters are important to ensure the FIC operates as intended.

Inheritance Tax

Easing of admin burden

It was pleasing to see the government’s support on the following administrative recommendations:

With effect from 1 January 2022, it is expected that 90% of estates will no longer be required to submit IHT forms for non-taxpaying estates where probate or confirmation is required.

A temporary measure was introduced during Covid-19 concerning wet signatures required for inheritance tax forms. This temporary measure has now become permanent with HMRC accepting declarations from personal representatives/trustees in place of signatures to ease the administrative burden.

The reporting requirements will be amended, and further clarification will be given for non-UK domiciled estates owning indirect interests in UK residential property.
In addition to the above, the government will continue to review the processes involving lifetime and trust charges and digitising the IHT forms.

Major reform still to come?

The government has also indicated that it will be looking at the second IHT report concerning the simplification of IHT. If some or all of these changes are implemented, this could still result in a significant overhaul in the taxation of passing on wealth.

The recommendations outlined in the second IHT report abolish many of the current exemptions and reliefs used today and are replaced with simpler reliefs with the intention that the newer rules will be easier to understand for many taxpayers. Given that some of these changes also impact CGT, I would have thought it would not be unreasonable to assume further changes to CGT could arise in the future as the economy recovers.

Trusts

A consultation was published on the taxation of trusts between 7 November 2018 and 28 February 2019. The government was seeking views on whether trusts adopted the principles of being transparent, fair, and simple.

Based on the responses received from the consultation, the government concluded that it did not indicate a desire for a comprehensive reform at this stage, but it will continue to keep it under review to ensure that long term, taxation of trusts meets its objective.

When this consultation was initially released, I considered it to be ‘woolly’ in nature with no real objective in mind but more of a fishing expedition to see if there are any tax ‘loopholes’ that needed to be looked at, especially where offshore trusts were concerned.

What is surprising to me is that vulnerable beneficiary trusts have been overlooked especially during this time where the pandemic has had an impact on people’s mental health. Simplifying the taxation of these trusts could benefit many of those who are currently unable to manage their own affairs.