This is going to be a trying time for investors looking to secure their funds and estates for the benefit of their children and descendants. This can be seen in a basic summary of some of the changes to tax rates being frozen or reduced.
Personal allowance and income tax bands are both frozen until April 2028 and the IHT nil rate band now until April 2030 at the earliest. The additional rate tax threshold has come down to £125,140, whilst the CGT annual exempt amount was slashed to £3,000 in April 2024. Finally, the dividend allowance has been repeatedly reduced to the current level of £500.
The table below illustrates the effect the reduced CGT exempt allowance has on investments from the old exempt amount of £12,300 to the reduced £6,000 and £3,000 in 2024/25.
You can see from this table how much growth would be required for an investment to create a gain equal to the exempt amount. It is startling to see the difference in growth rates needed. So as an example, to create a gain equal to the higher exempt amount of £12,300 a £100,000 investment could grow at 12.3% over the year. However, if doing the same calculation for the exempt amount now applicable (£3,000) the growth rate for the same £100,000 investment would drop to only 3%.
This shows the significant impact of the reducing CGT annual exempt amount has on investment growth before tax will be due. A seemingly small change to an exemption can have quite a knock-on effect over the years showing how larger investments and cumulative fund growth will impact the clients tax situation.
This impact on the CGT exempt amount reduces some of the benefits of collective investments as the CGT savings have been slashed along with the Dividend Allowance (reduced from £2,000 to £1,000 in 2023/24 and now £500 in 2024/25). This may open the discussion of the use of bonds as a good alternative investment option. This could especially be the case for trustee investments.
There is a very similar view to the freezing of the IHT nil rate bands for both the standard nil rate band and the additional Residence Nil Rate Band. As people accrue more wealth driven predominantly by property and investment values, it will mean more and more people accrue benefits between couples and individually that breach the IHT bands.
The inheritance nil rate band was originally designed to increase in line with RPI and then changed to reflect CPI in 2008, however, this rate was frozen in the 2009/10 tax year. Had this not been frozen the nil rate band would have reached £500,000 by tax year 2025/26.
Nil Rate Band - frozen in time
With IHT bands frozen and tax allowance reductions, more and more people will begin to have potential IHT issues they are looking to mitigate. Not only will more people potentially have IHT issues, but these issues may come about sooner in their lives. This then can bring on other difficult choices;
“I don’t want to give away my assets because I may need them, but I want to avoid IHT to leave my beneficiaries as much as I can….”
The use of trusts can be a sensible way to plan for these circumstances whist in some cases maintaining access and control over the monies. The variety of trusts available can mean that it is possible to make outright gifts or make gifts whilst retaining rights to some income or capital.
Trusts that can give access to capital or income
- Discounted Gift Trust -The client gifts money to a trust whilst retaining the right to a regular income for the rest of their life. The value of the gift is split into 2 parts with an element being deemed retained to provide the income and the remainder being treated as the gift for gifting purposes (either CLT or PET depending on if discretionary or bare trust). The value of the gifted element will be outside of the estate after 7 years and the value of the retained for income element being immediately outside of the estate for IHT purposes.
- Lifestyle Trust – A flexible solution where the client gifts money to a trust and has the option of taking capital payments plus any growth at fixed points in the future. The whole of the gift will be treated as the CLT and outside of the estate after 7 years.
- Loan trust - This provides clients with the ability to access the original capital as they have just lent this money to the trustees. The trustees make the investment and any growth obtained will be outside of the client's estate for IHT. This really helps prevent further fund capital growth for the settlor rather than reducing the value of their estate.
- Discretionary Trust, settlor included - Provides clients with control and flexibility over how wealth is distributed. As the client is also a beneficiary, it is not IHT efficient. However, as the value of the funds are in the estate, it will mean that these funds will be available to the trustees and beneficiaries to release to pay any IHT liabilities.
Trusts that will just remove money from your estate (no access for the client)
- Discretionary Trust, settlor excluded - An IHT solution for clients who do not require access to capital and want control and flexibility over distribution of wealth.
- Bare Trust – A simple IHT solution where the client does not require access to the capital, knows who they want to leave their wealth to, and requires no future flexibility.
A list of all Quilter Trusts and descriptions of their uses can be found here. In addition to this article we have many other articles on trusts on our Technical Insights pages.