In our previous article, we discussed the benefits of Life Interest Trusts. However, not all Trusts carry the same advantages.
Placing a property, especially your main residence, “into Trust” may be far from ideal for numerous reasons.
There are strict rules relating to Trusts which are designed to remove property from your estate. Some property trusts will fall foul of the Gift with Reservation of Benefit provisions (GWR). These provisions are designed to prevent situations where the Settlor (the person creating the Trust) is doing so merely to reduce the value of their estate.
Let’s start with the basics. A property Trust is often used to transfer ownership of a property into a Trust, with the intention of reducing inheritance tax liability. By placing the property in a Trust, the owner is no longer deemed to own it directly, so the value of the property is removed from their estate. On the surface, this seems like a straightforward way to reduce inheritance tax (IHT). However, there’s a crucial provision that prevents such arrangements from being abused: the Gift with Reservation of Benefit rules.
The GWR provisions, introduced in the Finance Act 1986, were designed to stop individuals from gifting assets – like their home – while still retaining the use or benefit of those assets. Essentially, if you give away your property but continue to live in it rent-free or enjoy other benefits from it, HMRC will still treat it as part of your estate for IHT purposes.
How does this apply to property trusts? If an individual transfers their property into a Trust for their children and continues to live in the house rent-free, the gift of the property into the Trust is deemed a “gift with reservation of benefit”. The result? For IHT purposes, the property is still treated as part of the individual’s estate, negating any tax-saving advantage.
There are ways to avoid falling foul of these provisions, but they require careful planning. For example, if the Settlor – the person transferring the property – pays full market rent for living in the property after the transfer, this may prevent the GWR rules from applying. However, this rent must be documented and paid regularly, otherwise HMRC may still challenge the arrangement.
Another point to keep in mind is the related Pre-Owned Assets Tax, or POAT, introduced in 2005. POAT acts as a backstop to GWR provisions, applying an annual income tax charge to individuals who try to sidestep the rules. For example, if a trust arrangement avoids GWR but the Settlor still uses the property without appropriate rent payments, they could be liable for POAT.
In summary, property Trusts can be a powerful tool for estate planning, but they must be structured carefully to comply with tax laws. Falling foul of the GWR provisions – or the related POAT regime – can render such planning ineffective or worse lead to unexpected tax liabilities. It is vital to seek expert advice before creating such arrangements.
Our Adam Penn says, “We regularly see people who firmly believe that their main residence sits outside of their estate because they have created what they think is a binding Trust, but the reality is that, as they remain living in that property, the property is still treated as forming part of their estate for IHT purposes. Whilst the Trust appears perfectly valid and properly drafted, it is rendered meaningless unless they pay a market value rent, which seldom occurs”.
If you would like us to review your property arrangements, please get in touch with us below.