Inheritance Tax and trusts: HMRC registration rules change – what does this mean for you?

Inheritance Tax (IHT) bills are treated differently if assets are held in certain types of trusts and while not all trusts shield families from the tax, there are some instances in which IHT will be reduced. Recently, HMRC updated the rules on trusts which Richard Bate, a partner at national law firm Weightmans, noted may create costs for trustees, defined as the legal owners of the assets held within a trust.

Are you prepared for more admin?

Mr Bate explained that as well as general legal duties, trustees looking after a trust have a legal obligation to comply with various HMRC reporting requirements. Unfortunately, trustees are now facing more pressure as a result of changing registration rules.

Due to regulations passed in early 2021, it is now mandatory for most trusts to register with HMRC’s Trust Registration Service, even if the trust does not need to pay any tax.

An extension to the registration system has “recently gone live” and trustees must ensure their trust is registered by September 2022 at the latest. Failure to do so could result in penalties being imposed against the trustees.

Specifically, under the new Fifth Money Laundering Directive (5MLD), all UK trusts, except those that meet specific exemption criteria, must be registered with HMRC and Mr Bate continued by examining what this means for families.

READ MORE: HMRC collects record amounts of IHT from Britons – what can you do?

What trusts need to be registered and what do the changes mean for trustees?

Mr Bate said: “All express UK trusts are required to register, unless they fall within one of the specific exclusions set out in the regulations. The exclusions include charitable trusts, pension trusts, trusts which qualify as a ‘trust for a disabled person’ and pre-2020 ‘pilot trusts’ holding less than £100.

“Trusts holding life insurance policies and trusts between joint owners of property will likely not need to register, but specific criteria apply so it is worth checking with your professional advisor. All other trusts must be registered, including those which only hold small sums. If in doubt, professional advice should be sought.”

Even where trustees do not need to pay tax, they will still need to register with HMRC and they could be caught out if this is missed.

Mr Bate continued: “This introduces an additional administrative burden for trustees, with new considerations, and means they are required to register with the TRS even if their trust does not need to pay any tax. And even those who have already registered a trust may now need to provide more information than they did previously in order to comply with ongoing reporting requirements.

“The window for new registrations and submissions is open until September 2022 – and failure to submit the correct documentation could result in trustees incurring fines in excess of £300.”

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How will these changes impact Inheritance Tax?

Many people may have the assumption that by putting their assets inside a trust, they will be “outside” their estate. This in turn would limit the size of the estate during the evaluation process for IHT purposes. Currently, IHT is levied estates valued over £325,000.

However, this is an oversimplification, as Mr Bate continued: “Trusts are a useful tool for managing your estate, both throughout your lifetime and when you pass away, helping you to retain greater control over what happens to your assets and how they can be used. The tax treatment of trusts is complex and there is a lingering misconception that trusts themselves are exempt from Inheritance Tax – apart from in certain circumstances, this is unlikely to be the case.

“These new regulations don’t alter the fact that trusts are subject to ongoing tax reporting at various stages of their lifecycle – on creation, during the course of the trust administration, and on winding up. Trusts can incur a liability to various taxes including Inheritance Tax, Income Tax and other forms of taxation. Specific requirements depend on what kind of trust it is, and the value of its assets.

“For example – if you are a trustee of a discretionary trust, you will likely be required to pay tax, and file an inheritance tax return, on the 10-year anniversary of the trust’s creation, as well as whenever any funds are paid to a beneficiary. Trustees should always seek professional advice to make sure their reporting – and tax – obligations are satisfied, and avoid falling into the trap of thinking that assets in trust are exempt from inheritance tax.”

What do trustees need to do differently?

For trustees who are impacted by these changes, Mr Bate concluded on what needs to be done.

“It is trustees of express trusts – such as those set up to give money as gifts or loans – that must be most conscious of their new reporting obligations,” he said.

“Even though they are typically not subject to tax until funds are withdrawn, they now still need to be registered with the TRS.

“Generally, trustees should continually review whether their trust needs to file annual tax returns with HMRC, even if they don’t have to pay tax and have nothing to report. While historically HMRC would inform any professional advisors acting on behalf of a trustee of an obligation to file, new regulations mean this is no longer the case. The onus is squarely on trustees to take action, and to bring their advisors into the loop as needed.

“Documenting all actions taken in respect of a trust is key to help trustees ensure compliance, and perhaps even more importantly to be able to evidence it if the trustees were ever challenged or criticised. The payment of funds out of a trust, for example, should be formally documented, and decisions about the management of a trust fund should be noted carefully following regular trustee meetings.

“Our advice to any trustee is to engage a professional advisor – the cost of which is a legitimate expense of any trust fund – to ensure they have all of the tools and knowledge at their disposal to manage their trusts effectively, and in line with new regulations.”

Relevant property

While seeking professional help for trusts is advisable, guidance on the rules can be found on the Government’s website. Additionally, impartial guidance can be sought from the likes of Money Helper and Citizens Advice.

Currently, the Government’s rules detail assets held in trusts such as money, shares, houses or land are known as “relevant property”. Most property held in trusts counts as relevant property and IHT may be due on the assets held within a trust when:

  • They are transferred out of a trust (exit charges)
  • A 10 year anniversary occurs

The “only” exceptions to this rule are when the asset is:

  • In an interest in possession trust and it was put there before March 22, 2006
  • Subject to a “transitional serial interest” made between March 22, 2006 and October 5, 2008
  • Put into an interest in possession trust by the terms of a will or the rules of intestacy
  • Set aside for a disabled person
  • Set aside for a bereaved minor
  • Put into an age “18 to 25 trust”

Generally, IHT for most types of trusts is due when a person makes transfers out that total more than the Inheritance Tax threshold of £325,000.

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