August 13, 2024
If you create a life interest trust in your will (known as a qualifying interest in possession trust (IIP)), the assets are held by the trustees appointed in the will and the entitlement to the assets is split into their capital and income elements. If the asset is an interest in property, the capital is the property itself and the income is the right to occupy the property, or to receive the income it generates. The beneficiary entitled to the income is known as the life tenant. When this entitlement to income ends, the capital passes to the beneficiaries you specify (known as the remaindermen).
With an increase in the prevalence of IIPs created by will, it is important to be aware of the potential inheritance tax (IHT) implications for the life tenant if they elect to release their interest in an IIP during their lifetime. If this is the case, and the trust assets pass to someone else, this is treated as a gift by the life tenant. It may be either:
The PET will only become exempt from IHT if the life tenant survives the gift by seven years. This is because the life tenant is treated as if they personally owned the trust assets themselves. If the life tenant dies within seven years of making the PET, there is an IHT charge at the death rate of 40% with credit attributed for any tax paid at the lifetime rate. If the life tenant survives for at least 3 years after releasing their life interest in the IIP, then a reduced rate of IHT would need to be considered.
Although IHT may need to be paid on the failed PET, the responsibility for this falls on the recipient of the PET and not the executors of the life tenant’s estate. However, it is important to note that HMRC can look to the executors of the life tenant if the IHT on the failed PET is not paid within 12 months.
If you need any advice on this topic, or assistance with your will or trust, please contact our friendly and knowledgeable Private Client Team.
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