Inheritance Tax  

How to help clients with loan trusts and inheritance tax planning

  • Explain how a loan trust is structured
  • Explain in what circumstances a loan trust is suitable for
  • Explain the benefits and risks of a loan trust

It is not acceptable to have the bond dated before the trust deed, as you cannot set up a bond with trustees who do not exist yet.

What access do the settlors and the beneficiaries have to the trust fund?

The settlor only has full access to any outstanding loan. 

The loan is interest free and repayable on demand. They can also waive any future loan repayments. 

These would be then treated as a potentially exempt transfer (PET) or chargeable lifetime transfer (CLT) at the time they are waived, depending on the type of trusts used.  

All the growth and any amounts waived must be held for the benefit of the beneficiaries. 

That means the settlors have absolutely no access to the trust fund whatsoever. You will normally find a settlor exclusion clause within the deed to ensure that this is clear.

Tax and reporting implications

Loan trusts are set up based only on a loan – ie there is no initial gift – so there will be no possibility of a chargeable transfer on setting up the trust.

However, if the trust is a discretionary trust, the relevant property in the trust will be subject to periodic IHT charges at each 10-year anniversary up to a maximum of 6 per cent. 

The value of the trust fund will be the net value after taking account of any outstanding loan. 

This means that in many cases it is unlikely any IHT will be payable on a 10-year anniversary. 

You should be aware that even if a 10-year anniversary does not give rise to a periodic charge, it is important to note for the purposes of reporting an IHT event. 

A report may still be required if the value of the investment itself exceeds 80 per cent of the available nil rate band.

Exit charges may also arise where capital is distributed to beneficiaries, but again these are unlikely if the value of the trust fund (ie after deduction of the loan) is within the trust’s available nil rate band. 

Loan repayments to the settlor will not be subject to the exit charge.

What about any loan repayment amounts that are waived by the settlor?  

With a loan trust, the loan can be waived in part or in full at any time. Insurance companies can offer a 'deed to waive a loan'. 

This is an excellent opportunity to suggest to clients that they use their IHT annual exemption and waive £3,000 or £6,000 each year in a joint settlor trust. 

Waiving small amounts at a time allows them to gently give up access to their capital.

Any amounts waived that are not exempt will either be a PET or a CLT, depending on whether an absolute trust or a discretionary trust has been chosen. 

Under an absolute trust, the amount waived (if not exempt) creates a PET.