When reviewing your Estate Planning there can be a number of issues which arise in relation to the family home and we are seeing an increase in clients wishing to gift or transfer their property to other generations as part of their Succession Planning. This may also help to reduce the Inheritance Tax liability on death.
There are things to think about in each of the following cases :-
Gifting your Home to an Individual/family member
Commonly people think about transferring their property to their family outright (ie without a trust arrangement). This is often not as straightforward an option as it may seem and we ask people to think about:-
- What happens if there is a dispute in the future prompting the person to whom the property has been transferred to want to sell it?
- If the person given the property has financial difficulties, becomes bankrupt or is involved in litigation might the house be pout at risk?
- If the property no longer belongs to you will your have a say in whether you remain there or go into care?
- What happens if the recipient gets a divorce and the property is seen as an asset in dividing up the matrimonial pot?
- And if the new owner dies before you what happens to the house?
All of these situations may make the donor of the property vulnerable.
There may also be adverse tax consequences in respect of a transfer to a member of the family in terms of Inheritance Tax or Capital Gains Tax.
Gifting your home to a Trust
An alternative option is to make a gift of your home to a trust. A Discretionary Trust is appropriate provided the value of the home or the value of your share does not exceed the nil rate band for Inheritance Tax (currently £325,000). Above that figure such a gift will trigger a tax charge.
By entering into a trust arrangement the house is no longer owned by you and it is possible that its value may not be taken into account by the Local Authority when assessing your means. Accordingly, your choice of Trustee is key. You may include yourself as Trustee and you may wish to think about appointing a professional Trustee who is independent of the family.
A discretionary trust, as the name implies, does not give you the right to receive any benefit from the Trust at any particular time, unless and until the Trustees so decide.
Trust provisions – Discretionary Trusts
The Trustees of a Discretionary trust are given wide powers of management. In the event of the donor’s death, they may, but are not obliged to make over the house in accordance with the donor’s Will. If the donor goes into care, the Trustees could decide to rent out the property, sell it and distribute the proceeds, or indeed transfer the property to the persons named in the Will.
An advantage of gifting your property to a Trust rather than an outright transfer of title to family members is that the Trustees can sell the property and buy another one for the donor if they want to move for whatever reason, for example, to be closer to family or to downsize. The donor is not restricted to living in a property which no longer meets their needs.
If there is surplus of funds on a sale, the Trustees can give that to the donor, invest the proceeds for them, or the Trustees could transfer the property at that stage to other potential beneficiaries of the trust. Accordingly, there is a great deal of flexibility, which is what makes this option attractive.
Please note that the foregoing all assumes that there is no mortgage over the property. Where there is a mortgage, the lender will have to be asked to give consent to the trust and they may not agree to this. If the mortgage over the property is small, paying it off might provide a solution.
Please note that by placing your house into a Discretionary Trust however you lose the right to the Residence Nil Rate Band (RNRB) (currently £125,000 and increases each year).
Tax Considerations – discretionary trusts
If the house is the only asset held in the trust, there is no income and therefore no charge to income tax. However, there will be income tax payable if the house is sold and its proceeds invested.
Please note that principal residence relief from Capital Gains tax should be available to the original owner/donor if the house is sold. The house will, however, form part of the estate of the original owner for Inheritance tax purposes if they continue to live in the house and thereby continue to receive a benefit under the “Gifts with Reservation of Benefit” rules. The rule whereby the property falls outwith the estate of the donor after 7 years does not apply where the donor continues to benefit from the property.
Provided the value of the assets in the trust itself is less than the nil rate band or allowance for Inheritance Tax (currently £325,000) the trust will not suffer any exit charges or 10 year anniversary charges.
It should be understood that tax, as well as general legislation is subject to change.
An alternative trust – the Liferent Trust
A Liferent Trust allows the beneficiary an immediate right to the income generated from the asset held in trust (or the right to enjoy the asset in another way, for example by living in the property) for the present time. The time limit is, often, the lifetime of the beneficiary, however it can be for another ‘fixed’ time, and this time might also end when certain circumstances arise (for example, these trusts might be structured so that a surviving spouse has a right to receive an income for the rest of his or her life or until he/she remarries).
A good example for use of a liferent trust is in the case of a couple, one or both of whom have been married before and have children from a previous relationship. A liferent trust can be set up in terms of the Will of the first to allowing the survivor the trust income for life but preserving the asset or the trust capital. When the survivor dies the trust ceases and the capital can be directed to pass to the children of the first to die.
This allows for the second to die to receive an income or be allowed to live in a property but on their death the children from the previous relationship still receive an inheritance from their parent.
The survivor would be the ‘liferenter’ and the children would be the ‘fiars’.
Liferent trusts can be set up during lifetime too.
Tax considerations – liferent trusts
For Inheritance Tax purposes, the ‘liferenter’ is treated as if she/he owns the property. This being the case, when the ‘liferenter’ dies the asset or assets in the liferent trust are aggregated to his/her estate and Inheritance Tax is due on the whole amount (minis any allowances). When using a liferent to spouse the Nil Rate Band of the first spouse to die is preserved under the spouse exemption.
Should you decide to proceed with any trust arrangement, please note the choice of Trustees is very important. Title to your property will pass to the Trustees and we recommend that the obligations of all parties regarding such matters in respect of ongoing maintenance and insurance of the property are all discussed and agreed in order that everyone is aware of their responsibilities.
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The information and opinions contained in this blog are for information only. They are not intended to constitute advice and should not be relied upon or considered as a replacement for advice. Before acting on any of the information contained in this blog, please seek specific advice from Gilson Gray.