Writing for Taxation magazine, BKL tax adviser Terry Jordan examines the tax implications of a capital withdrawal or property purchase.
The life tenant of an interest in possession trust would like to use some of the capital to purchase a residential property in which she could live. One of the remaindermen is a minor, but the other beneficiaries are happy to allow this. The tax implications of a capital withdrawal or property purchase are reviewed.
My client, in her mid-70s, is the sole life tenant of an interest in possession trust established in 1939. In 2005, she executed a deed of appointment dividing the capital of the trust into three equal parts for the benefit of her two daughters and her grandson.
The trust owns 100% of a commercial property, which produces income, and 100% of the issued share capital of a property investment company that owned a similar commercial property producing much less income. The single property in the company has been sold for £1m; it cost £100,000 in 1985.
Our client wishes to extract the net proceeds to buy a main residence in London to be near her family. She will sell her existing home in the Midlands, but needs more funds to move to London.
Although her two daughters and grandson are the eventual beneficiaries of the assets, we understand that they will support her decision concerning this trust asset. The grandson is a minor, the daughters are not.
We would appreciate readers’ opinions on the most efficient way either to extract the funds or, perhaps, purchase a residential property within the trust. And are there any pitfalls that we should be aware of when putting any such transactions into effect?
Query 18,163 – Granny
Reply from Terry “Lacuna” Jordan, BKL
Granny’s client enjoys a pre-22 March 2006 “estate” interest in possession in the trust so she is treated as owning the underlying capital for inheritance tax purposes. Based on the client’s age and the date of establishment of the trust, it is clear that it is not within the old estate duty surviving spouse provisions preserved into inheritance tax by IHTA 1984, Sch 6 para 2.
The client apparently had the power to appoint the remainder interests which she has exercised for the benefit of her two daughters and her grandson. While the grandson remains a minor it will not be possible to use the rule in Saunders v Vautier QB 1841, 4 Beav 115 to allow the combined beneficiaries to direct the trustees to bring the trust to an end.
A person who enjoys an interest in possession in a trust has no statutory right to receive capital. The Trustee Act 1925, s 32 permits advances (in its unamended form of up to one-half) to a beneficiary prospectively entitled to capital, but not to a life tenant. The trust deed might permit advances of capital to the life tenant, but this would be unusual in an old settlement.
The company will have incurred a corporation tax liability on realising the gain on the disposal of the property. It could declare a sizeable dividend, which would belong to the client, with no additional tax liability on the trustees, but the client would have a sizeable additional income tax liability.
A more tax-efficient solution, if a commercial lender could be found, would be for the trustees to borrow secured on the directly-held commercial property and to lend a sufficient sum to the client to facilitate her property purchase.
Of course, even lending would require the necessary power to have been incorporated in the trust deed and, given its age, its terms are likely to be restrictive.
This article is also available as a pdf and via the Taxation website.
