IHT Relevant Property Regime — Entry, Ten-Year, and Exit Charges
Discretionary trusts are subject to the IHT relevant property regime under IHTA 1984 ss.58-85. Entry charge: IHT at 20% on the value settled above the settlor's available nil rate band (£325,000 in 2024/25) — a CLT, not a PET; the 7-year rule does not eliminate the upfront charge. Ten-year anniversary charge: up to 6% of the trust's value on each ten-year anniversary — for a £1M property trust, potentially £60,000 per decade; effective rate depends on available NRB and time in trust. Exit charge: payable when property leaves the trust (distribution or sale), proportional to the next ten-year rate and the time elapsed. APR/BPR: qualifying agricultural or business property in the relevant property trust may attract 100% relief, eliminating or reducing the periodic and exit charges. IHT100 filing required on each anniversary and exit event — professional RICS valuation of trust property is required.
CGT Hold-Over Relief and Settlor-Interested Trap
Settlement into discretionary trust: TCGA 1992 s.260 hold-over relief available on gift into a discretionary trust — gain held over; trustees take property at settlor's original base cost; no CGT at entry. Trustees' CGT: charged at 24% (higher rate for residential property) on disposal; trustees' annual exempt amount is only £1,500 from 2024/25. Hold-over on distribution: s.260 also available when trustees transfer property to a beneficiary — gain held over; beneficiary inherits historic base cost. Settlor-interested trust trap: if the settlor (or spouse) is a potential beneficiary, s.260 hold-over relief is NOT available — gains are taxed on the settlor immediately; always exclude the settlor and spouse from the beneficial class. PRR is not automatically available to trustees — requires specific election and formal occupation arrangements.
Income Tax at the Trust Rate and Practical Structuring
Discretionary trusts pay income tax at the trust rate on rental income: 45% above the £1,000 standard rate band (from 2024/25); 20% on the first £1,000. Tax pool: the 45% tax paid by trustees creates a pool credited to beneficiaries on distribution — lower-rate beneficiaries can reclaim excess tax, allowing income to be directed to lower-rate family members. Mortgage interest: subject to the s.24 restriction (20% basic rate credit only) as in the individual regime. SA900 annual return required. Cost-benefit analysis: weigh IHT ten-year charges, CGT hold-over deferral, 45% income tax, and professional administration costs against the planning objectives before settling property. A limited company structure is often more tax-efficient for income accumulation; a discretionary trust is better for IHT estate planning and asset protection.