What is a trust?
A trust is an obligation binding a person or a company (a trustee) to deal with property in a particular way, for the benefit of one or more beneficiaries.
A settlor is a person who has put property into the trust. Property is normally put into the trust when it is created; however, it is also possible for property to be added at a later date.
The words 'settlement' and 'trust' are sometimes used in place of one another, and to describe the same thing. For tax purposes the term 'settlement' includes various other arrangements, such as covenants.
This page deals only with trusts.
The trustees are the legal owners of the trust property. They are under a legally binding obligation to handle the property of the trust in a particular way and for a particular purpose. Trustees administer the trust and in certain circumstances make decisions about how the property in the trust is to be used. The trust can continue even though there may be changes in the people who are its trustees, but there must normally be at least one trustee.
The property of a trust can be many different things, such as money, land or investments. The property held in the trust is also called the 'capital'. This capital may produce income, such as interest or dividends. The way this income is taxed depends on the type of trust. (See 'How are trusts taxed?'.)
A beneficiary is anyone who may benefit from the property held in the trust. There can be one or more beneficiaries, such as a whole family or a class of people, and each may benefit from the trust in a different way. For example, they may benefit from the income only, the capital only, or both the income and capital of the trust.
How is a trust created?
Normally a trust is created by a deed. A settlor asks a professional adviser to draw up a trust deed, which creates the trust. Alternatively, a trust can be created under the terms of a will; a person leaves instructions that upon his or her death some or all of the estate is to be placed in trust. A trust can also arise if a person dies without leaving a Will.
Sometimes the Courts may create a trust, for example, when they have to decide how to deal with property for the benefit of a child or an incapacitated person who cannot manage his or her own affairs.
What to do when a trust is created.
A SETTLOR
Trust law and the taxation of trusts can be complicated. If you consult a professional adviser about creating a trust they will be able to draw up the trust deed for you. They will also help and guide you through the many other things you may need to do which are beyond the scope of this leaflet. You may need to tell your Tax Office if you have put property into a trust.
A TRUSTEE
When a trust is created the trustee(s) should inform the Inland Revenue. You can do this by completing an Inland Revenue form 41G(Trust), which is available from Tax Enquiry Centres, Tax Offices, or from one of the Trust Tax Offices shown on page 15 of this leaflet. The completed form should be sent to the appropriate Inland Revenue Trust Tax Office. Please do not send a copy of the trust deed to the Inland Revenue. The Trust Tax Office will ask for it if it is required.
What to do when a trust ceases to exist.
If a trust is wound up, the trustee(s) should notify the Trust Tax Office who will require a tax return for the period up to the date the trust is wound up. It is important to remember that the trustees need to make provision for any debts, including any tax that will be due. Trustees will need to consider whether the ending of the trust gives rise to a capital gains tax liability. If the property of the trust is distributed before any outstanding tax is paid, then the trustees may have to pay that tax out of their own pockets.
What other things do trustees need to do?
A trustee's responsibilities depend on the type of trust and the terms under which the trust was created. The settlor may have instructed that trustees carry out various functions, and trust law may impose further obligations.
For taxation purposes trustees are responsible for
• notifying the Inland Revenue that tax is due, within six months of the end of the tax year for which it is due, unless a tax return for the year has been received
• keeping records of the income and capital gains of the trust
• completing and sending to the Trust Tax Office any tax return issued to them
• paying any tax due on the property or income of the trust
• supplying certificates to the beneficiaries to show how much the beneficiaries have received from the trust in the tax year and the tax paid. The Trust Tax Office can supply a form to use as a certificate.
The section headed 'Self Assessment' provides more information on tax returns and payment of tax.
The trustees may appoint a professional adviser, such as a solicitor or accountant, to carry out some or all of these tasks. However, if they do, the trustees are still responsible for ensuring that all tax obligations are carried out satisfactorily.
The different sorts of trusts
There are a number of different sorts of trusts, but they all fall into one of the following broad categories.
Bare trusts
A 'bare trust', also known as a 'simple trust', exists where the beneficial owner of the property is fully entitled to both the capital and income from that property. The property will be held in the name of a trustee, but that trustee will have no discretion over what income to pay to the beneficiary. The trustee is in effect a nominee in whose name the property is held.
For example, a brother may leave his sister some money in his will. That money is to be held on trust, with the sister entitled to the money and any income it earns. So, although the money is held in a trust, the sister would be chargeable to tax on any income, such as interest, earned on that money.
A beneficial owner is the person who benefits from, and is exclusively entitled to, the property and any income it produces. In the example above the sister is the beneficial owner of the money held in trust.
Interest in possession trusts
Broadly, these types of trust exist where a beneficiary has a current legal right to the income from the trust. The trustees will have no power to withhold the income from the beneficiary, except to pay certain expenses. All of the income received by the trustees, less any expenses and tax, must be passed to the beneficiary. If the beneficiary is entitled to the income of the trust for life he or she is normally called a life tenant (a liferenter in Scotland).
The beneficiary need not, and often does not, have any rights to the capital of such a trust. Normally, the capital will be payable to a different beneficiary, or beneficiaries, at a specific time in the future or after a specific future event. The trustees may, depending on the terms of the trust, have the power to pay capital to a beneficiary even though that beneficiary has a right to receive only income.
An example of an interest in possession trust would be where a husband's will created a trust upon his death, with all of his shares to be held in that trust. The dividends earned on those shares are to go to his widow for the rest of her life, and when she dies the shares pass to the children or grandchildren. The widow has an interest in possession in the trust as she is entitled to the income (dividends) arising to it for the rest of her life. When she dies the trust ceases and all the capital (shares) passes to the children or grandchildren.
Discretionary trusts
Trustees of a discretionary trust generally have 'discretion' to use the income of the trust. They may be required to use any income for the benefit of particular beneficiaries, but it is for the trustees to decide how much is paid and how often the payments are made. The trustees may, or may not, be allowed to accumulate income within the trust for as long as the law allows rather than passing it to the beneficiaries.
An example of a discretionary trust would be where a grandparent put some money into trust, to be held for 20 years, for the benefit of two grandchildren. The trustees decide how to invest that money and how to use the money, or any interest it earns, to benefit the grandchildren. For example, when the children are young the trustees may decide to pay for piano lessons for them. As they get older payments may be made towards a wedding or a new home. After 20 years the trustees would wind up the trust and distribute all of the money to the two grandchildren.
Accumulation trusts
Trustees of an accumulation trust are normally required to accumulate the income of the trust until a certain date, at which time the beneficiary, or beneficiaries, will become entitled to the property of the trust or to the income arising from that property. An accumulation and maintenance trust allows the trustees to use income for the maintenance of the beneficiary before the date on which that beneficiary becomes entitled to the property of the trust, or to an interest in possession in that property.
For example, such a trust may benefit a child, who before he or she is 25 could receive payments from the trust for his or her maintenance. All the remaining income will be accumulated. Unless otherwise specified, the beneficiary usually becomes entitled to the income from that property at age 18 and an interest in possession trust is, therefore, created. At 25 the beneficiary may become entitled to the capital of the trust, including any accumulated income.
Mixed trusts
A mixed trust is a mixture of more than one type of trust, such as a discretionary trust and an interest in possession trust. More than one beneficiary may be entitled to receive all of the income of a part of the trust property, whilst the trustees may have discretion over the income of the remaining property of the trust.
For example, if there were two children benefiting in the accumulation and maintenance trust example above, one may reach 18 whilst the other is still, say, 14. That part of the trust benefiting the 18 year old is an interest in possession trust. The part that benefits the 14 year old remains an accumulation and maintenance trust. So the trust is a mixed trust.
Non-resident trusts and special trusts
The following trusts are outside the scope of this leaflet.
• Trusts where some or all of the trustees are not UK residents.
• Trusts that are not created or not administered under UK law.
• Various special types of UK trust such as charities, pension funds and unit trusts.
Your professional adviser should be able to provide more information about these trusts. Alternatively, the Inland Revenue FICO Office may be able to provide more information on non-UK trusts.
How are trusts taxed?
This section explains briefly how different types of trust are charged to income tax and capital gains tax. Inheritance tax is covered in the IHT series of booklets.
Different tax rules apply to non-resident and special trusts. These are not covered in this page.
Bare trusts
Bare trusts are normally treated for tax purposes as if the beneficial owner of the property held the property in his or her own name. Income tax and capital gains tax are generally charged on the beneficial owner, as if the trust did not exist. Thetrustees may pay the tax due to the Inland Revenue on behalf of a beneficiary, but it is the beneficiary who is strictly chargeable to tax.
Interest in possession trusts
The trustees are normally charged to income tax on any income received gross. Savings income such as bank interest is chargeable at the lower rate, whereas other income, such as rent, is chargeable at the basic rate. All the income, after tax and expenses, is therefore passed on to the beneficiaries with tax already deducted. The beneficiaries are then taxed in the normal way on all income received from the trust, with credit being given for the tax paid by the trustees or deducted at source.
If the beneficiaries are lower rate taxpayers or non-taxpayers they may be able to reclaim some or all of the tax paid. If they are liable at higher rates further tax will be due.
The trustees are chargeable to capital gains tax, at the basic rate, on any capital gains that exceed an annual exempt amount. The exempt amount is normally equal to half the annual exempt amount for an individual.
The beneficiaries are not taxed on the gains of the trustees, and they cannot have credit for, or repayment of, the capital gains tax paid by the trustees.
Discretionary trusts
The trustees are chargeable to tax on any income received at a special rate applicable to trusts. The Trust Tax Offices can tell you what the rate is.
The beneficiaries receive credit for the tax paid on any income distributed to them. If the tax paid exceeds their liability the beneficiaries may be able to claim back some or all of the tax paid by the trustees. If the beneficiary is liable at the higher rate further tax will be due.
The trustees may choose to accumulate the income so that it becomes additional capital of the trust. If, in later years, the trustees distribute some of the accumulated income to the beneficiaries the payment is a capital, as opposed to an income, payment. Beneficiaries are not taxed on capital payments and get no credit for tax paid by the trustees in earlier years.
The trustees are chargeable to tax, at the special rate applicable to trusts, on any capital gains arising to the trust.
The beneficiaries are not taxed on any trust gains and get no credit for the tax paid by the trustees.
Accumulation trusts
During the period when a trust is accumulating income the trustees are taxed in the same way as trustees of a discretionary trust, with both income tax and capital gains tax charged at the special rate applicable to trusts. When the accumulation period ends the tax treatment depends on what happens to the trust property. If an interest in possession trust is formed then the tax treatment described above for interest in possession trusts will apply. If the trust comes to an end, and the trustees pass the trust property to the beneficiaries, the trustees may need to pay a capital gains tax charge at that point, but will not have any liability on future income or gains.
Mixed trusts
In a mixed trust, income of each part of the trust will be taxed under the appropriate rules outlined above. So, for example, the part of a trust in which there is an interest in possession will be taxed as such, whilst a discretionary part will be taxed as a discretionary trust.
The trustees are chargeable to tax, at the special rate applicable to trusts, on any capital gains arising to the trust, as if the whole of the trust were a discretionary trust.
The beneficiaries are not taxed on any trust gains and get no credit for any capital gains tax paid by the trustees.
Trusts in which the settlor retains an interest
There are special tax rules for trusts in which the settlor retains an interest in the trust, or payments are made to or for the benefit of the settlor's minor unmarried children. Minor means a child under eighteen years of age and step children are included.
Broadly, the settlor retains an interest in the trust if it is possible for any property or income of the trust to be paid to, or for the benefit of, the settlor or the settlor's spouse in any circumstances whatsoever.
Payments are made to or for the benefit of the settlor's minor unmarried children if payments are actually made to the children, or are made to someone else, but still benefit the children. For instance, payments to a private school to cover school fees for the children are payments for the benefit of those children.
In general, where the settlor retains an interest in a trust the income and capital gains of the trust are treated as the settlor's for tax purposes. Where payments are made by trustees to, or for the benefit of, the settlor's minor unmarried children those payments are treated as income of the settlor for tax purposes.
This explanation covers the special rules only in broad outline. If you think they may apply you should obtain further advice from your professional adviser, or the appropriate Inland Revenue Trust Tax Office. See here for the address.
Self Assessment
Self Assessment is the method for calculating and paying tax. Trustees are responsible for making a return and paying the tax on time. Failure to do so may result in automatic interest, surcharges and penalties. When completing the tax return, trustees can choose whether to calculate the actual tax due themselves or ask the Inland Revenue to do the calculation for them.
The Self Assessment tax returns are generally issued each year in April, and ask for details of income and capital gains for the tax year just ended on the 5 April. The return needs to be completed and returned
• by the 30 September, if the trustees want the Inland Revenue to calculate the tax due, or
• by the 31 January in the following year if they intend calculating their own liability.
Trustees may need to pay the tax due for any one year in three instalments; two payments on account on the 31 January in the year and the 31 July after the end of the year and a final payment on the following 31 January. The first and second payments on account are equal to half of the total liability for the previous year (excluding capital gains tax), whilst the final payment is a balancing payment.
For instance, if the trustees' total income tax liability for 1997/98 was £5,000, and the total liability for 1998/99 was £6,000, the payments due, and timetable for the tax return, for 1998/99 would be :
31 January 1999 £2,500 due (half of £5,000)
April 1999 tax return for 1998/99 issued
31 July 1999 £2,500 due (half of £5,000)
30 September 1999 Tax return due if the Inland Revenue are to calculate the tax
31 January 2000 £1,000 due (£6,000 due for 1998/99 less the £5,000 paid). Tax return due if trustees calculate the tax due.
There is a further payment due on 31 January 2000; the first payment on account for 1999/2000. The payment due is £3,000, half of the total liability for 1998/99.
Payments on account are not due where the income tax liability for the previous year is below £500 or if 80 per cent or more of the tax liability is collected by deduction of tax at source.
Different rules applied for 1995-96 and earlier years.
If you need further information about tax returns, assessments and payments, please contact the appropriate Inland Revenue Trust Tax Office.
All trustees of an individual trust are jointly liable for any tax due, not just a share of it. However, where there is more than one trustee acting they will normally arrange for one of them - the 'principal acting trustee' - to deal with the Inland Revenue on their behalf. The actions of the principal acting trustee are treated as actions of all of the trustees. Therefore, so long as everything is dealt with properly, all of the trustees will be treated as fulfilling their taxation obligations.
However, if the principal acting trustee fails to fulfil the taxation obligations then all the trustees will be treated as failing to meet those obligations.Any tax or interest on tax can be recovered from any trustee if the Inland Revenue is unable to obtain payment from the principal acting trustee. Similarly, any trustee may be held liable to penalties or surcharges incurred during the period they are a trustee.
There is further information on Self Assessment in our SA series of leaflets.
Inland Revenue Trust Tax Offices
All trusts (except for some special trusts) are dealt with by one of the following Inland Revenue Offices.
Inland Revenue Office and
area dealt with:
Edinburgh 7 District Meldrum House 15 Drumsheugh Gardens Edinburgh. EH3 7UY Tel: 0131 473 9200
All trusts established under Scottish law or administered from an address in Scotland.
London Trusts District Charles House 375 Kensington High Street London. W14 8QS Tel: 020 7 605 9800
UK resident trusts administered from addresses within the Greater London area (broadly within the M25).
Manchester Castlefield District Albert Bridge House 1 Bridge Street Manchester. M60 9AF Tel: 0161 288 6000
UK resident trusts administered from addresses broadly within the Greater Manchester area.
Nottingham Trusts District Huntingdon Court 90-94 Mansfield Road Nottingham. NG1 3HG Tel: 0115 911 6500
UK resident trusts not dealt with by Edinburgh, London, Manchester, or Truro Districts.
Truro Tax District Lysnoweth Infirmary Hill Truro. TR1 2JD Tel: 01872 78178
UK resident trusts administered from addresses in the South West of England.
Inland Revenue - FICO Non-resident Trusts St John's House Merton Road Bootle. L69 9BB Tel: 0151 472 6000
All UK non-resident trusts, and trusts not administered under UK law, or not created under UK law.
If you are in any doubt as to which office deals with a particular trust, please ring any of the offices above and ask to speak to the 'Trust Enquiry Section'.
What can I do if I want to comment about the way my tax affairs have been dealt with?
Your comments are valued, on the service you have received from your Tax Enquiry Centre or Tax Office. Suggestions are welcome, that could improve the service we provide for you.
If you have a complaint, first write to the officer-in-charge of the office or unit concerned. His or her name is on every letter sent out. In our experience, most issues are settled quickly and satisfactorily in this way.
If you have a complaint which the officer-in-charge of your own Tax Office cannot settle you should contact the Inland Revenue Controller responsible for the area dealing with your tax affairs. The leaflet IR120 'You and the Inland Revenue' tells you how to do that. It is available from any Tax Enquiry Centre or Tax Office.
If the Controller does not settle your complaint to your satisfaction you can ask the Adjudicator to look into it and recommend appropriate action. The Adjudicator, whose services are free, is an impartial referee whose recommendations are independent. The address is
The Adjudicator's Office
Haymarket House
28 Haymarket
London
SW1Y 4SP
Tel: 020 7 930 2292
Fax: 020 7 930 2298
Finally, you can ask a Member of Parliament to refer a complaint to the independent Parliamentary Commissioner for Administration, commonly known as the 'Ombudsman', whose address is
The Parliamentary Commissioner for
Administration
Church House
Great Smith Street
London
SW1P 3BW
Tel: 020 7 276 2130/3000
Ross
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