Settlor-interested trusts

By Tolley
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The following Trusts and Inheritance Tax guidance note by Tolley provides comprehensive and up to date tax information covering:

  • Settlor-interested trusts
  • What is a settlor-interested trust?
  • Income tax - the settlements code
  • The charge on income where the settlor retains an interest
  • The charge on income paid to children of the settlor
  • The income tax charge on capital payments to the settlor
  • Capital gains tax - settlor interested trusts
  • Inheritance tax - reservation of benefit

This document discusses the charge on income where the settlor retains an interest and when paid to children of the settlor. It also covers income tax charge on capital payments to the settlor and Capital Gains Tax and Inheritance Tax implications on the settlor.

 

What is a settlor-interested trust?

A settlor-interested trust is one where the person who created the trust, the settlor, has kept for himself some or all of the benefits attaching to the property which he has given away. A straightforward example is where a settlor transfers assets to trustees for the benefit of himself and his family, and the terms of the trust allow income or capital from the trust assets to be paid to him.

In certain circumstances the creation of a settlement would offer a tax advantage because, for example, tax will be deferred or the trustees will pay tax at a lower rate. Tax law operates to remove this advantage if the settlor has not effectively divested himself of the trust property.

The term ‘settlor-interested’ arises in connection with income tax and capital gains tax. For inheritance tax, the creation of a settlement from which the settlor may benefit is categorised as a ‘gift with reservation’.

This guidance note describes the primary provisions relating to income tax and capital gains tax, and provides links to other guidance notes dealing with more specialised provisions.

Income tax - the settlements code

Settlor-interested trusts fall within the ambit of the anti-avoidance provisions of ITTOIA 2005, ss 619 – 648, sometimes referred to as the ‘Settlements Code’. The effect of these provisions is, broadly, to treat the income arising from settled property as belonging to the settlor, rather than the trustees or other beneficiaries, thus countering any potential income tax advantage of placing the assets with a different legal owner. They apply to formal trusts, as well as more informal settlements, and to both UK resident and non-resident trusts.

See the Tax on UK settlors of non-resident trusts guidance note.

The settlements code charges income tax on the settlor as follows:

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