Taxation of trusts

Taxation of trusts: Trust Advice

Putting a Life Insurance policy in trust may exempt the proceeds from inheritance tax.

We recommend that you always seek professional advice as to which type of trust is suitable for your particular needs because there are so many available.

Investments in trust: complicated tax rules

Putting investments inside a trust can have tax implications on the settlor and beneficiaries in terms of Inheritance Tax, Income Tax and Capital Gains Taxes depending upon the trust used. 

Life Insurance In Trust:

Putting a life insurance policy in trust normally does not have the same tax implications.

Tax Free: A trust is a gift for tax purposes: 

Generally speaking, if you take out a policy on your own life and put it in trust, the premiums that you pay are treated as a gift to the beneficiaries for Inheritance Tax purposes.   The lump sum payable on death is normally free of inheritance tax as it is the premium that you are giving away.

Exempt gift?  Most life insurance premiums will be exempt.

It is usual that the premiums that you pay are covered by one of the main exemptions such as the annual gift allowance or treated as a gift from your normal income i.e.  your lifestyle is unaffected by paying the premiums or the premium gift is below the nil rate band for Inheritance Tax.   These will make the premiums that you pay i.e.  the gift, exempt from taxes.

Not exempt - Lifetime gifts - quite rare for life insurance premiums

If the premiums are not wholly exempt, for example, they are huge premiums totalling many hundreds of pounds per month or are in excess of the nil rate inheritance tax threshold or you have already given huge sums away and used up your nil rate inheritance tax allowance, the premiums, not the sum assured on death, will be taxed as a Lifetime Gift at 20% and then taxed potentially at a further 20% on death.

Depending on the type of trust, there can also be income tax and capital gains tax implications that should be taken into account.   

Beware additional tax rules if you leave money for children

The Chancellor changed the rules on trusts in 2006.  In simple terms most, but not all, trusts that have investment monies inside them for 10 years or more, pay a tax charge every 10 years and an exit tax charge when the money is paid out to the beneficiaries.

The new rule can catch people out, particularly if you leave money to children.

For example, if you die and your life insurance pays out to a flexible trust for your young children, for example they are 4 years old, and you specify that they cannot have the monies until they aged 18 years old.  This means that the life insurance funds paid out on death will have been in a trust that has been in force for 14 years.  This will mean a tax charge.

Remember most, but not all, life insurance trusts are affected by the 10 year rule.

Request expert advice today.