The Chartered Tax Adviser Examination

Transcription

1 The Chartered Tax Adviser Examination November 2014 Inheritance Tax, Trusts & Estates Advisory Paper Suggested solutions

2 Question 1 Address A Firm A Town Postcode Date Dear John and Maria Thank you for coming to see me last week. I have set out below the inheritance tax implications of your current wills. As we discussed, liability to UK Inheritance Tax (IHT) is governed by domicile. Domicile is a concept under UK law and is separate from residence or nationality. It is acquired at birth, usually from your father. Based on our discussions John has a UK domicile of origin and Maria has a domicile of origin in Spain. It is possible to lose a domicile of origin by forming an intention to remain permanently and indefinitely in a new jurisdiction, whilst simultaneously being physically present in that jurisdiction and severing all ties with the old jurisdiction, but as Maria does not appear to have such an intention then she remains Spanish domiciled. The current Inheritance Tax rules state that a transfer of value from one spouse to another in lifetime or on death is exempt from inheritance tax without limit when: both spouses are domiciled in the UK; or neither spouse is UK domiciled; or the transferee spouse is UK domiciled. However, if the transferor spouse has a UK domicile and the transferee does not then there are limits to the amount which can be transferred free of IHT. Based on the current law and the expectation that John will predecease Maria these rules exist to prevent assets being taken outside the scope of UK inheritance tax. Currently the IHT free amount which can be transferred to a non- domiciled spouse is 325,000. Included within this 325,000 non-domiciled allowance is not only the value of the assets being transferred on death but also all previous lifetime transfers. A UK domiciled individual is liable to IHT on their worldwide assets whereas a nondomiciled individual is only taxed on UK situs assets. Once a non-domiciled individual has been tax resident in the UK for 17 of the last 20 tax years they will become deemed domiciled in the UK for inheritance tax purposes. This means that for IHT purposes once Maria has been UK resident for 17 of the last 20 years (thus not until the tax year commencing 6 April 2027) she will be subject to IHT, in the same way as a UK domiciled individual, on her worldwide assets. 2

3 If John were to be the first to die, then provided his full nil rate band is available he will be able to pass assets of 650,000 to Maria free of inheritance tax (consisting of the 325,000 nil rate band and the 325,000 non-domiciled spouse exemption). Alternatively if Maria was to die first, leaving her estate to John there would be an unlimited spousal exemption. Based on the values we discussed at our meeting I estimate that the Inheritance tax due on John s death would be as follows: House 350,000 Cash 10,000 Chattels 25,000 Other 750,000 1,135,000 Less Nil rate band (325,000) Spouse exemption (325,000) 485,000 Inheritance tax at 40%= 194,000. On Maria s death further Inheritance tax would be due. Assuming she is not deemed domiciled at her date of death and based on John s estate on death (less the inheritance tax which would be payable) I estimate that the Inheritance Tax due would be: John s estate (less IHT paid) 941,000 Maria s UK assets 435,000 Less Nil rate band (325,000) 1,051,000 Inheritance tax due at 40% = 420,400 Total Inheritance tax due on both estates =614,400 b) As an IHT liability would arise on John s death, Maria should consider making an election to be treated as UK domiciled for IHT purposes. The election does not affect the income and capital gains tax position for Maria. The election can be made by Maria during the lifetimes of you both. Alternatively an election can be made after the death of John by the Executors within two years of his death. A lifetime election can be backdated by up to 7 years but not prior to 6 April 2013 or date of marriage if later. Making the election will mean that transfers between John and Maria from the effective date of the election will be exempt from IHT (or at death if a post death election is made). However once Maria is treated as UK domiciled her worldwide assets will be within the scope of IHT. 3

4 Once the election has been made this is irrevocable. However the election will cease to have effect once Maria has been non-uk resident for four full tax years. Therefore if Maria moves back to Spain in the future, after four UK tax years she will no longer be regarded as UK domiciled for UK tax purposes. This means that only UK situs assets will then be subject to UK Inheritance Tax (but excluding the Euro account by virtue of Maria s non residence status). Assuming however a worst case position of Maria making the election and dying before she has been outside the UK for four complete UK tax years, the Inheritance Tax position would be as follows: John s death No tax on John s death because the full value of the estate will be covered by the spousal exemption. Maria s death John s assets 1,135,000 Maria s UK assets 385,000 Euro account 50,000 Unit Trust 20,000 Spanish property 285,000 (5% deduction for costs of administration) 1,875,000 Less: nil rate band ( 650,000) (John & Maria s) 1,225,000 Tax at 40% = 490,000. As you will see, making the election will result in total Inheritance Tax of 490,000 rather than 614,400 if no election was made. c) In order to reduce the potential liability IHT further at Maria s death she could consider placing her non-uk situs assets in an excluded property trust prior to making the UK domicile election. This would protect her non-uk assets from IHT if she were to die whilst the UK domicile election was still effective. Maria may also wish to consider selling some of the UK situs assets in due course. If Maria left the UK then after 4 full tax years outside the UK she would only be subject to IHT on any UK situs assets. If you have any queries or would like any further information please let me know. Kind regards Tax Advisor 4

5 Marking Guide for Q1 Presentation 1 Maria Spanish Dom of Origin No intention to stay in UK so not UK domiciled Circumstances spousal exemption limited Amount of non-dom spouse exemption Includes lifetime transfers UK dom s liability to IHT 1 Non Dom s liability to IHT 1 Deemed domicile rules 1 Position if John dies first Position if Maria dies first Calculations if John dies first: - Spouse exemption - IHT due on John s death - Calculation of Maria s UK assets 1 - John s Estate net of IHT - IHT due on Maria s death - Total IHT due b) Non dom election In lifetime or on death of UK dom Time limit for death election Lifetime election can be backdated Impact for Maria Irrevocable Non-resident 4 full tax years cease have effect Calcs re John/ Maria s death with election: - No tax on John s death (spousal exemption) - deduction of 5% re Spanish property - Total estate - 2 x NRB - Calculation of IHT due Consider selling UK assets Other planning idea such as Excluded Property Trust

6 Question 2 Non-savings Savings Dividends Rental income 4,500 Dividends 9,444 Bank Interest 1,000 Treasury Stock 1,000 4,500 2,000 9,444 Trustees expenses (1,500 x 100/90) (1,667) 7,777 (1000/3) = 333 x 20% = 67 1,667 x 10% = 167 6,167 x 45%= 2,775 7,777 x 37.5% = 2,916 5,925 Deducted at source Savings (200) Dividends (944) 4,781 Capital Gains tax 63,573 Total tax payable 68,354 Less payments on account (2,000) 66,354 Payments on account for 2014/15 4,781 / 2= 2,390 each 2,390 Total payable 31 January ,744 Tax pool Brought forward 2,413 Savings/Non savings 2,842 Dividends 2,138 7,393 Less tax on Distribution (4,090) Tax pool c/f 3,303 Capital Gains Antique Clock - exempt wasting asset 6

7 Sculpture Proceeds 210,000 MV 1982 (45,000) Capital Gain 165,000 London leasehold flat Depreciation in value of the leasehold cost 4.5 years = = x 300,000= 9, Cost = 300,000 Abated (9,698) Allowable cost 290,302 Proceeds 350,000 Cost (290,302) Capital Gain 59,698 Painting Proceeds 8,500 Cost 2,500 Gain 6,000 Compare to 5/3 (8,500-6,000) = 4,166 Gain restricted to 4,166. Total Capital Gains Sculpture 165,000 London Flat 59,698 Painting 4, ,864 Annual exemption (1,817)* 227,047 CGT at 28% = 63,573 *(1/3 of 5,450) 7

8 Marking Guide for Q2 Gross up net figures and t/tee expenses 1 Income tax computation Calculate and apply 1,000 band 1 Identify deductible t/tee expenses Allocation of t/tee expenses Total income tax payable Tax deducted at source Tax due date & total payable 1 Payments on account for 2014/15 1 Tax pool calculations 2 Capital Gains Antique clock- exempt 1 Sculpture 1 Leasehold flat 3 Painting 1 Calculate annual exemption Calculate CGT 8

9 Question 3 Amanda s death estate Investment property 300,000 Bank account 20,000 Quoted shares 30,000 The family home 600, shares in Yellow Ltd 450,000 Less: Loan to Yellow Ltd (100,000) Less: Business Property Relief: (350,000) 0 Loan due from Yellow Ltd 100,000 Total Estate 1,050,000 Nil rate band x 2 (650,000) Total chargeable estate 400,000 Inheritance Tax at 40% = 160,000 Payable 31 October 2014 or on submission of IHT 400 if sooner. Instalment option may be available for the two properties. The borrowings against the Property used to invest in the company are deductible first against the value of the company shares. 1,000,000 payment to Trust does not form part of Amanda s Estate for Inheritance Tax purposes David Quick succession relief on Investment Property received from Amanda. 300,000 x 160,000 = 45,714 1,050,000 Death Estate House 500,000 Investment property 300,000 Motor car and chattels 16,200 Partnership share 70, ,200 Nil rate band (325,000) 561,200 Less gift to political party (exempt) (10,000) Less gift to Charity (exempt) (60,000) Estate subject to IHT 491,200 9

10 Inheritance Tax at 36%* = 176,832 Less: QSR (45,714) Net Tax due 131,118 * qualifies for 36% tax rate as more that 10% of the net value of the Estate is gifted to Charity (551,200 x 10%= 55,120) No BPR as a binding contract for sale exists. Tax due 31 March 2015 or on submission of the IHT 400 if sooner. The instalment option may be available for David s partnership share and the two properties. b) Bereaved Minor Trusts can only be set up under the Will or Intestacy of a deceased parent (loco parentis) or the Criminal Injuries Compensation Scheme. A bereaved minor is a person who is under 18 years old at time of the trust commencement and at least one of whose parents has died. Income can be applied for the benefit of the bereaved minor prior to age 18. Upon the age of 18 (or before) the bereaved minor must become absolutely entitled to the settled property. There are no IHT charges where the bereaved minor receives absolute ownership on or before their 18 th birthday. There will also be no chargeable disposal for CGT purposes on absolute entitlement. Income and capital gains tax is payable at the usual discretionary trust rates of tax, 37.5% and 45% for income (with the first 1,000 of income taxed at normal rates) and 28% for capital gains. 10

11 Marking Guide for Q3 Amanda Borrowings only deductible against Yellow Ltd BPR on Yellow Ltd shares 1 Loan due from Yellow Ltd 1 Transferable NRB 1 Tax payable calculation & due date 1 Trust payment not form part of Estate David No BPR as binding contract 1 IHT Calc QSR 1 Total tax due- 36% rate 1 Political party gift exempt Charity gift exempt Due date Instalment option possible for Amanda and David (1/2 for each) 1 b) Trust set up on death etc. Requirement for capital entitlement at age 18 Income can be applied during minority No IHT charges where the bereaved minor receives absolute ownership on or before 18 Income tax at Trust rates except for SRB 1 Capital gain treatment 1 11

12 Question 4 Estate of John Taylor Tax due on lifetime transfers: (i) September 2008 gift of 400,000 to Judy Death calculation: Gift 400,000 Less annual exemption (2008/09) (3,000) Less annual exemption (2007/08) (3,000) Failed PET 394,000 Less nil rate band (325,000) Balance 69,000 Tax at 40% 27,600 Less taper relief at 60% (5/6 yrs) (16,560) Net tax due 11,040 Judy will be required to pay the tax due on 31 December (ii) January 2012 transfer of house at undervalue by Holly Ltd to David Lifetime calculation: Transfer of value 100,000* Less annual exemption (2011/12) (3,000) Less annual exemption (2010/11) (3,000) Chargeable lifetime transfer 94,000 Less nil rate band (325,000) Tax due Nil Notes: Undervalue apportioned to John is 50% of 200,000 as he owned 50% of the company. No grossing up is required as the apportioned transfer falls wholly within John s unused nil rate band. Death calculation: Chargeable lifetime Transfer 94,000* Tax at 40% 37,600 The company will be required to pay the tax due on 31 December * The value of the transfer is established at the date of the transfer during lifetime at which time it was entirely covered by the nil rate band. The position is not altered by reason of John s later death which caused the nil rate band to be repositioned against the earlier failed PET. 12

13 (iv) December to three grandchildren Gift 1,000 x 3 3,000 Annual exemption (2012/13) (3,000) Balance Nil No tax due. (iii) January Transfer into trust Lifetime calculation: Chargeable transfer 400,000 Nil rate band (325,000-94,000*) (231,000) Balance 169,000 Tax at 20% paid by trustees 33,800 *Utilised against the company transfer. Death calculation: Chargeable transfer 400,000 Nil rate band Nil Balance 400,000 Tax at 40% 160,000 Less tax already paid (33,800) Net tax due 126,200 The trustees will be required to pay the tax on 31 December Tax due on death estate: House in Hertfordshire 500,000 Land in Bedfordshire 700,000 House in Sussex (jointly owned - half share) 200,000 House in Germany 200,000 Less expenses max 5% (10,000) Balance 190,000 Shares in Holly Ltd 150,000 Shares in Mellido GmbH (2% shareholding) 300,000 Cash 100,000 Total 2,140,000 Nil rate band (fully utilised) Nil Balance 2,140,000 13

14 Tax at 40% 856,000 Less credit for German tax* (35,000) Net tax due 821,000 *The German estate tax due on house in Germany is less than 40%, therefore full credit may be given against IHT. The burden of IHT on the death estate is allocated as follows: Rachel (house in Germany) A foreign tax bears its own tax thus: 190,000 at 40% 76,000 Less German tax credit (35,000) Balance due 41,000 Robert (shares in Mellido GmbH) A foreign tax bears its own tax thus: 300,000 at 40% 120,000 Judy (house in Hertfordshire) Specific legacy to bear its own tax thus: 500,000 at 40% 200,000 Mark (half share of house in Sussex) Jointly owned property bears its own tax thus: 200,000 at 40% 80,000 David (residue) Balance by David 380,000 The tax will fall due for payment on 31 December 2014 or on earlier presentation of estate account. However, where the tax is in relation to land (which is partly or wholly the case for everyone but Robert) then there is the option to elect to pay the tax in 10 equal annual instalments commencing with the 31 December Interest will be charged on the outstanding balance from the day after the first instalment is due. If the property is later sold the instalment basis will be withdrawn and the balance of tax outstanding will fall due for immediate settlement. 14

15 Marking Guide for Q4 Tax on PET 1 Payable by recipient Tax on company transfer (lifetime) Mention that grossing up not required Death calculation 1 Payable by company Tax on transfer to trust 1 Payable by trustees All due 31 December Annual exemption allocated to grandchildrens gifts 1 Calculation of death tax: No NRB German expenses Limited to 5% Double tax relief 1 Computation Persons liable each 2 Due date 31 December 2014 Mention instalments possible 1 15

16 Question 5 A Tax Adviser Anytown Mr Thomas Jones Willow Farm Wiltshire 5 November 2014 Dear Thomas I am sorry to hear of your father s death. As discussed, this letter sets out the Inheritance Tax due on your father s death and an explanation of the concepts behind it. Inheritance tax is calculated with reference to the chargeable value of both assets owned at the time of death and on gifts made in the seven years prior to death. In a number of instances Agricultural Property Relief (APR) is likely to be available for the assets in your father's estate but this must also be considered in connection with the lifetime gift to you of Cedar Farm. APR is an inheritance tax relief given against the agricultural value of property used for the purposes of agriculture as defined. However, there are a number of conditions which must be satisfied which include in particular length of asset ownership and type of asset use which I shall explain in the course of my review detailed below. (i) Lifetime gift in October 2012 (Cedar Farm) At the time it was given, Cedar Farm was a Potentially Exempt Transfer (PET) and no Inheritance Tax was due at that point. Accordingly, had your father survived 7 years from the date of the gift the transfer would have been fully exempt and the question of APR would have been irrelevant. However, as your father died within 7 eyars of making the gift, it is now necessary to consider the availability of APR both at date of gift and at the date of your father s death. Accepting that the farm was occupied for agricultural purpose, the condition for APR for a tenancy beginning on or after 1 September 1995 requires that it must have been occupied by a tenant for the purpose of agriculture for at least 7 years before the transfer. At the time of the gift in October 2012 this condition was met such that APR would have been in point. At the time of your father s death in July 2014 the stud farm and retained grazing were still used for agricultural purpose and thus met the APR qualification. However, in January 2014 you sold half the grazing land and therefore as that land (or any qualifying replacement property) was not owned by you at the time of your father s death, only half of the transfer is eligible for APR. A chargeable transfer of 100,000 is therefore deemed to have been made. Your father had made no other lifetime gifts in the previous seven years thus he had two annual exemptions of 3,000 to set against the gifted value of the grazing land not covered by APR resulting in a chargeable value of 94,000. This amount was fully 16

17 covered by the nil rate band thus no tax fell due on this transfer. However this does mean that the nil rate band available to go against your father s estate is now reduced. (ii) Death estate Willow Farm and farmhouse As this was both owned and farmed by your father, the 7 year agricultural use test referred to above for Cedar Farm is replaced by a lower 2 year test which your father fully satisfied. Accordingly, the value of the farm land is covered by APR. In order for the farmhouse to also qualify, it needs to be occupied by the farmer (for the requisite period of time) and be commensurate in terms of character and value with the size of the farm. I have assumed this to be the case here such that it would also qualify for APR. However, if for any reason you believe the farmhouse was overly generous for the size of the farm, or was not fully occupied by your father or has development potential which would have an impact on its current value then please let me know as this will affect the availability of APR. Ash Farm At the time your father inherited the farm from his brother this was fully covered by APR on the same basis as Willow Farm but your father had only owned it for 7 months prior to his death and he did not occupy the farmhouse. However, the short period of your father s ownership is not an issue as there is a provision for successive transfers to enable the time test to be determined with reference to the combined period of ownership of both your father and his brother such that APR will apply to the land. In contrast, the farmhouse ceased to be occupied for the purposes of agriculture on the brother s death and this lack of occupation has denied access to APR on the value of that property. Oak Farm Oak Farm meets the APR qualification as it has been used for agricultural purposes throughout, tenanted for over 7 years and comes with a right to vacant possession. However, APR is restricted to the agricultural value of the land (300,000) and not the market (probate) value of approximately 450,000 which reflects the recent offer made. The value of cottages occupied by farmworkers will qualify for relief. Rowan Farm Where agricultural property is owned for less than the requisite period (7 years in this instance) but has replaced qualifying agricultural property, there is a provision for that replacement property to qualify for APR if together both it and the original property had been owned for at least 7 out of the 10 years preceding the transfer. In this case the farm was tenanted and had not been owned for 7 years prior to the death of your father, however it did replace another farm, and together both properties had been held for a total of more than 7 years out of the 10 years preceding your father s death. This therefore satisfies the replacement property conditions and APR will be allowed. 17

18 Debts The unpaid income tax and the funeral expenses are allowable deductions when calculating the tax due on your father s estate. IHT Calculation The calculation of tax is shown in appendix A and amounts to 198,933. This will fall due for payment on 31 January 2015 or on earlier presentation of the IHT account. However, the tax due on the property and land may be paid, if desired, in instalments. (iv) CGT due on the sale of grazing land (Cedar Farm) As mentioned, in January 2014 you sold half of the grazing land at a profit which has given rise to a capital gain of 150,000 calculated as follows: Proceeds 250,000 Cost* (100,000) Gain 150,000 *(200,000 x (250,000/500,000)) After subtracting your annual exemption for that year of 10,900 (assuming this has not been utilised against other in year gains) the remaining gain of 139,100 will be taxed at 28% as you are a higher rate taxpayer. It should be noted that the disposal does not qualify for entrepreneurs relief. I hope this is helpful, please do not hesitate to contact me with any questions. Yours sincerely A Advisor 18

19 APPENDIX A IHT Calculation Willow Farm land 1,000,000 Farmhouse 200,000 1,200,000 APR (1,200,000) Balance Nil Ash Farm land 400,000 Farmhouse 200, ,000 APR (land) (400,000) Balance 200,000 Oak Farm - land 450,000 Cottages 100, ,000 APR (400,000) Balance 150,000 Rowan Farm land 200,000 Farmhouse 100, ,000 APR ( ) Balance Nil Cash 600,000 Total 950,000 Liabilities (5,000) Total 945,000 Less Nil rate band (see notes) (447,667) Chargeable 497,333 Tax at 40% 198,933 Notes: The nil rate band available to the estate is reduced by the lifetime transfer thus: Nil rate band as at July ,000 Less lifetime transfer (94,000) Balance 231,000 The estate can also claim 2/3 of the unused nil rate band of your mother (only 100,000 of the then nil rate band of 300,000 had been set used against a nonexempt legacy). The combined nil rate band available to the estate is thus: Personal 231,000 Transferable nil rate band 216,667 Total 447,667 19

20 Marking Guide for Q5 Letter format 1 No tax on PET as covered by nil rate band Not all PET covered by APR 1 Willow farm comment 1 Ash farm successive property 1 Ash farmhouse not covered Oak farm value Oak farm APR 1 Farm cottages Rowan farm replacement property 1 Calculation of death estate including liabilities 1 NRB explanation 1 NRB calculation 1 Computation 1 CGT comp 1 Specifics of APR 2 years if owner farmed and 7 years if tenanted 1 20

21 Question 6 A Tax Adviser Anytown The Trustees Anywhere 5 November 2014 Dear Adam, Catherine and David As discussed, I am writing to you in your capacity as trustees and beneficiaries to explain briefly the tax charges applicable to discretionary trusts, to set out the expected exit charge on Adam s payment, and to advise on the timing for a distribution to Catherine. The Discretionary trust Income Tax The trust does not have an equivalent of a personal allowance. It suffers the highest rate of income tax (37.5% for dividend income and 45% for all other income) but the first 1,000 of income is taxed at the normal rate (i.e. 10% for dividend income and 20% all else) in all cases a credit is given for any tax/credit deducted at source. There is a second 45% charge on income distributed to a trust beneficiary but that may be offset by the tax (excluding the notional dividend tax credit) paid on the arising trust income. In the hands of the trust beneficiary the distribution of income is treated as received net of a 45% tax credit. Capital Gains Tax In a case where the settlor established only one trust, as here, the annual exemption is half that of an individual thus currently 5,500 (2014/15) - any excess unrelieved gain is taxed at the highest rate, currently 28%. A disposal occurs for capital gains tax when the trust disposes of an asset to a third party (i.e. a commercial transaction) or transfers it to a beneficiary. In the latter case, generally holdover relief may be jointly claimed to defer recognition of the gain that would otherwise arise but this relief is denied in certain situations to include: if the trust is settlor interested (which is not the case here); the beneficiary is or becomes non-resident; the asset is transferred within the first three months of either creation or subsequent ten year anniversary thereof. Inheritance Tax The Discretionary trust is outside the settlor s estate if (as is the case here) the settlor retains no interest in the trust. It has its own Inheritance Tax regime which consists of a principal charge (10 year charge) every 10 years and interim exit charges. The former, applied to the chargeable value of the trust, is based on the value of the trust at the 10 year point net of available reliefs (but with adjustments i.e. other trusts created on the same day) less the current nil rate band itself reduced by both chargeable lifetime transfers made by the settlor in the 7 years prior to creating the trust and 21

22 capital distributions made from the trust within the previous 10 years. Special rules apply where the trust has changed character during that 10 year period or has not been trust property throughout the full 10 year period. The latter exit charge applies where there is interim distribution of capital in between 10 year anniversaries (but excluding the first quarter immediately following) made up of the amount distributed, multiplied by the effective rate of tax borne by the trust at the last principal charge date, multiplied by the number of complete 3 month periods since the last principal charge, divided by 40. However, exit charges before the first principal charge are calculated slightly differently as set out below: Exit charge on Adam s payment. If Adam receives a capital distribution before 1 December 2014 there will have been 38 quarters since the trust but increasing to 39 quarters if made post 30 November 2014 but before 1 March Since the exit charge increases with every quarter, it would be better to make Adam s distribution immediately. To compute the exit charge it is necessary to first calculate the initial value of the trust. This is arrived at by first calculating the tax paid on the initial transfer into trust when first created thus: Initial transfer 1,100,000 Business property relief (BPR) (800,000) 300,000 Less annual exemption (2004/05) (3,000) Less annual exemption (2003/04) (3,000) 294,000 Nil rate band (2004/05) (263,000) Chargeable 31,000 Tax paid by the trustees 6,200 The Initial value of settlement is 1,100,000-6,200 = 1,093,800 This calculation must then be reworked using the initial value of the settlement, ignoring BPR and the settlor s annual exemptions, substituting the increased nil rate band in force at time distribution and charging the balance at 6% thus: Initial transfer 1,100,000 Less tax paid (6,200) 1,093,800 Nil rate band (325,000) Balance 768,800 Tax at 6% 46,128 22

23 Tax expressed as an effective rate 4.217%* * 46,128/1,093,800 x 100 = 4.217% Accordingly, the exit charge due on Adam s distribution if made before 1 December 2014, assuming that this charge is borne out of the distributed fund is: 200,000 X 38/40 X 4.217% = 8,012 Catherine (i) Exit charge: As Catherine is more flexible in the timing of her request, the exit charge will vary dependant on when the capital distribution is made. However, the timing will also impact on the first 10 year charge due on 1 March If the distribution is made before 1 December 2014, the calculation will be the same as that for Adam above thus: 300,000 x 38/40 x 4.217% = 12,018 (ii) 10 year charge (assuming both capital distributions are made) If the above capital distributions are made the 10 year charge on the trust will be as follows: Cash value* Nil Zoom 400,000 Whizz 600,000 Less BPR (600,000) Balance Nil Total 400,000 Nil rate band 325,000 Capital distributions (to cover) (325,000) Balance Nil 400,000 Tax at 6% 24,000 *Used to fund capital distributions to Adam and Catherine. 23

24 (ii) 10 year charge (assuming capital distribution to Adam only pre 1 March 2015) Cash value 300,000 Zoom 400,000 Whizz 600,000 Less BPR (600,000) Balance Nil Total 700,000 Nil Rate Band 325,000 Capital distribution to Adam (200,000) Balance (125,000) 575,000 Tax at 6% 34,500 Effective rate 34,500/700,000 x % (iii) Distribution to Catherine post 10 year charge If a capital distribution was made within 3 months following the principal charge, there would be no exit tax due on that distribution. If a capital distribution was made between 1 June 2015 and 1 July 2015 there would be a (very small) exit tax. If a capital distribution was made after 1 July 2015 and to include 40,000 in Zoom shares (which by that point would qualify for BPR) the exit charge would be as follows: Capital distribution 300,000 BPR (on Zoom shares) (40,000) Balance 260, % x 1/ (iv) Summary Distribution to Catherine before 1 December 2014: Exit tax 12, year charge 24,000 Total 36,018 Distribution to Catherine 1 March to 31 May 2015: Exit tax Nil 10 year charge 34,500 Total 34,500 24

25 Distribution to Catherine after 1 July 2015: Exit tax year charge 34,500 Total 34,820 From a tax perspective it would therefore seem to be sensible to make Catherine s distribution between 1 March and 31 May The trustees could also distribute the Zoom shares (40,000) and make up the balance with a slightly lower cash balance distribution than 260,000 in anticipation of the potential growth value in the Zoom shares. The distribution of cash would not trigger a chargeable gain but the shares in Zoom Ltd would. However, Catherine and the trustees could jointly elect to hold over the gain on the latter as Zoom Ltd is an unlisted trading company. The holdover claim would deem the shares to be acquired by Catherine at their original base cost. She could then transfer some shares to her husband to allow them each to sell shares and utilise their respective annual exemption of 11,000 (2014/15). This would be more beneficial than the trust realising the gain as the trust only has an annual exemption of 5,500. I hope this is helpful, please do not hesitate to contact me if you have further questions. Yours sincerely A Tax Adviser 25

26 Marking Guide for Q6 Letter format 1 Discretionary trust tax income 1 Discretionary trust tax CGT 1 Discretionary trust tax IHT 2 Adam best to receive a distribution before 1 December 1 Calculation of initial transfer 2 Calculation of effective rate (and comment on BPR) 1 Ignore undistributed and unaccumulated income Exit charge Catherine s transfer will interact with 10 year charge 1 Compare pre 1 December with 1 March 31 May 1 Pre 1 December exit charge Principal charge if distribution before 1 March 2015 Principal charge if distribution afterwards Exit charge 1 March 31 May 1 Comparison and advice 1 Avoid period 1 June 2 July Post 2 July BPR on Zoom Comment or calculate exit charge post 2 July as v small 1 Catherine could take Zoom shares pre 1 December and therefore 1 receive a smaller distribution in anticipation of their growth A holdover election can be made 26