Greater opportunities for those with over £20,000 pension income

The eligibility rules for flexible income drawdown from pensions were untouched by Budget 2013, which is welcome news if this is something you are considering or would like to find out more about. Flexible income drawdown is a type of income withdrawal where you can take pension income direct from your pension fund without having to purchase an annuity. Ordinarily, there are limits on the maximum income you can take under income withdrawal (known as ‘capped drawdown’).

Provided you have a secured pension income of over £20,000 ‘Minimum Income Requirement’ a year (which can include any State pension), you could be eligible to use flexible income drawdown in respect of your money purchase pension savings.

Amount of income
Under flexible income drawdown there is no limit on the amount of income you can take in any year. You can tailor your drawdown pension to suit your personal requirements, whether taking regular amounts at a set frequency or ad hoc income when required. There is even the option to draw the entire fund in one go. All income withdrawal payments are subject to income tax under PAYE at your appropriate marginal rate.

Tax-efficient
Flexible income drawdown is tax-efficient, particularly where you wish to ‘phase in’ the use of your pension savings to provide that income. Any money left in drawdown on death is subject to a 55 per cent tax charge, whereas any untouched pension fund money (pre age 75) can pass on to your beneficiaries free of tax.

Once you go into flexible income drawdown you can no longer make tax-efficient pension contributions, so you should look to maximise all allowances, including carry forward, this tax year.

Flexible income drawdown is a complex area. If you are at all uncertain about its suitability for your circumstances we strongly suggest you seek professional financial advice. This is a high-risk option which is not suitable for everyone. If the market moves against you, capital and income will fall. High withdrawals will also deplete the fund, particularly leaving you short on income later in retirement.

At a time when people are being squeezed by the taxman, anything that helps save tax should be considered, and the potential to avoid the 55 per cent tax charge on part of those savings on death could result in significantly more of their estate being passed on to beneficiaries.

Flexible income drawdown is a complex area. If you are at all uncertain about its suitability for your circumstances you should seek professional financial advice. Your income is not secure. Flexible income drawdown can only be taken once you have finished saving into pensions. You control and must review where your pension is invested, and how much income you draw. Poor investment performance and excessive income withdrawals can deplete the fund.

New research shows why many older UK adults have many money regrets

Research from Standard Life has found that UK adults have many money regrets. But when asked what one thing, if anything, they most wish they had started doing earlier to be financially efficient with their money, saving for retirement came top of the list. Nearly one in seven (15 per cent) UK adults said they wish they’d started saving for their retirement when they were younger.

Today’s baby boomers
And if you ask those aged 55 plus, today’s baby boomers, then an even higher number – one in five – say this is their biggest regret. This figure rises further among adults who are saving into a personal pension rather than being part of a workplace scheme, with a quarter (25 per cent) wishing they’d started saving earlier, compared to just 13 per cent of those saving into a workplace pension.

Impact on future finances
Hindsight is a wonderful thing, but we can all learn from those who are older and wiser. The earlier we start saving, the bigger the impact on our future finances. Someone who starts saving £100 a month at age 25 could receive an income of £3,570 per annum by the time they are 65. Using the same assumptions, someone saving the same amount from age 40 would have a pension income of only £2,000 per annum at the same age [1].

Important not to panic
For those of you who feel you’ve already left it too late, the important thing is not to panic and save what you can now. And those of you who are not already saving through a workplace scheme or about to be automatically enrolled into one should find out more about personal pensions if you don’t want to end up with the same regrets as many other personal pension savers. These days most personal pensions are really flexible, so you can increase, decrease or stop and start contributions to suit changes in the future.

The challenge of saving efficiently
It’s important to take advantage of whatever opportunities you have to increase your pension contributions. Remember, with pension plans, the government contributes whenever you do. So if you are a basic rate tax payer, in most cases for every £4 you save in a pension, the Government adds another £1. And if you’re in a workplace scheme, your employer is likely to be topping up your contributions too. So consider increasing your regular pension savings as and when you can; or pay in a lump sum after a windfall such as a bonus [2].

Don’t think it’s ever too late to start saving for your retirement. And if you’re younger, don’t think that because you can’t save very much, there’s no point bothering. Even if you can start to save a small amount from a young age it can make a difference.

If you don’t feel you can put your money away in a pension just now, then you might want to consider investing in a tax-efficient Stocks & Shares Individual Savings Account (ISA) instead. This means you can still access your investment, while you also have the potential to help your money grow. There is no personal liability to tax on anything you receive from your Stocks & Shares ISA, so you might want to think about using as much of your £11,520 ISA allowance as possible before the end of this tax year. You can invest up to half of this in a tax-efficient Cash ISA, which you can earmark for more immediate concerns. Then you may want to consider
investing the rest in a Stocks & Shares ISA so you have the potential of greater tax-efficient growth over the longer term [2]. ν

All figures, unless otherwise stated, are from YouGov Plc. Total sample size was 2,059 adults. Fieldwork was undertaken between 25 – 28 January 2013. The survey was carried out online. The figures have been weighted and are representative of all UK adults (aged 18+).

[1] All pension figures are sourced from Standard Life and are based on an individual retiring at 65, making monthly pension contributions, assuming a growth rate of 5 per cent per annum, inflation of 2.5 per cent per annum, an annual increase in contributions of 3 per cent and an annual management charge of 1 per cent. The income produced is based on an annuity that does not increase, paid monthly from age 65, and this will continue to be paid for the first five years even if the individual dies.

[2] Laws and tax rules may change in the future. The information here is based on our understanding in April 2013. Personal circumstances also have an impact on tax treatment. All figures relate to the 2013/14 tax year, unless otherwise stated.

Start your retirement by celebrating your newfound freedom

Some pensions allow you to switch your money into lower risk investments as you near retirement date, which can help to protect you from last-minute drops in the stock market. However, doing this may reduce the potential for your fund to grow, plus your fund cannot be guaranteed because annual charges may reduce it.

Obtain an up-to-date pension forecast
With only months to go before you start accessing your pension, it’s important to get a very clear view of the level of income you can expect to receive. Contact your pension provider or providers for an up-to-the-minute forecast of your tax-free lump sum and income. You should also request a State Pension forecast, which will come complete with details of your basic State Pension and any additional State Pension you will receive. In addition, find out when you’ll be eligible to take your State Pension in the light of changes to the State Pension Age.

Also think about other sources of income you might be likely to get when you retire. These could include income from investments, property or land, part-time employment or consultancy, or an inheritance. Having as full a picture as possible will enable you to make detailed and practical final decisions about exactly how you want to take your pension income, as well as allowing you to make more accurate plans for your new lifestyle.

Choose how to take your pension
Although you may already have given some thought to how you want to take your pension benefits, it’s worth reviewing your plans at this point. Circumstances can change – for example, you might have received a significant inheritance or you may have been diagnosed with a medical condition, and former plans may no longer be quite appropriate.

You can either take your pension as an annuity, as income drawdown or as a combination of the two. With any of these options, normally you’ll also be able to take up to 25 per cent of your fund as a tax-free lump sum.

Additionally, now that the compulsory maximum annuity age no longer applies, you can decide to defer taking your pension. By keeping your pension pot invested there is an opportunity for further growth. However, you should think about the risks involved and look to de-risk as much as possible at this point. Investments can go down as well as up and your pot will be affected by the ups and downs of the markets. There can also be tax benefits but, as this is a complex decision, you should obtain professional financial advice – and remember, you may get back less than you invest.

Tax matters
Most people pay less tax when they retire, but it’s worth considering your tax position at this stage. Although you can normally take up to 25 per cent of your pension fund tax-free, any income you receive from it will be subject to tax under the Pay As You Earn (PAYE) system.

Meanwhile, if you’ve taken the option of income drawdown, you may be able to adjust the income you take to minimise the tax you pay. For example, if you plan to do some consultancy work or continue working in a part-time capacity, you could think about reducing your income withdrawals to stay within the basic rate of tax. Bear in mind that tax regulations can change and tax benefits depend on your personal circumstances.

Additionally, keep your savings and investments as tax-efficient as possible with products such as Individual Savings Accounts (ISAs) and offshore bonds.

You’ll also stop paying National Insurance contributions when you reach State Pension age. If you decide to continue working, whether full-time, part-time or on a consultancy basis, it’s a good idea to contact the tax office to make sure contributions aren’t still being deducted.

Prepare for life after work
As well as sorting out your finances, don’t forget to think about how your life will change when you retire. Even if you intend to keep working part-time, you’re going to have much more free time to enjoy.

Planning these first few months will help you set the tone for your future. Perhaps there’s somewhere, or someone, you’ve always wanted to visit. Maybe you want to learn a new sport or leisure activity, but have always had too many commitments. You might even want to start the search for that perfect retirement bolthole. The financial planning you’ve been doing for years all starts to bear fruit now.

Thresholds, percentage rates and tax legislation may change in subsequent Finance Acts. Levels and bases of, and reliefs from, taxation are subject to change and their value depends on the individual circumstances of the investor.

One of the biggest overhauls of Britain’s pension system in decades

The Government recently announced that up to 400,000 more Britons will qualify for a new higher flat-rate State Pension and they’ll introduce the reform a year earlier than expected. The simplified scheme will provide a weekly flat-rate payment of £144.

The date has been moved forward to April 2016, and is one of the biggest overhauls of Britain’s pension system in decades. The current system includes a basic pension, a State Second Pension and/or some means tested pension credit. From 2016 this will all be merged into the universal flat-rate payment.

Demystifying some of the key fund management concepts

We understand that the fund management industry has an array of jargon that can confuse both the novice and well-seasoned investors. Here we aim to demystify some of the key concepts.

Fund types
Funds exist to enable many investors to pool their money and invest together. This allows them to achieve economies of scale when buying stocks and diversify their exposure to a variety of stocks, rather than buying each one individually.

Funds are often known as ‘collective investment schemes’. These come in a number of guises, but largely fall into two key categories: ‘open-ended’ or ‘closed-ended’. In the UK, the most common types of open-ended funds are unit trusts and investment companies with variable capital (ICVCs), also known as open-ended investment companies (OEICs). Unit trusts and OEICs have different legal structures: one operates under trust law and issues ‘units’; the other operates under company law and issues ‘shares’.

However, they share a common characteristic: the number of units (or shares) is not fixed, but expands and contracts depending on the level of investor demand – hence the name ‘open-ended’.

Another name for this kind of investment scheme is ‘mutual fund’, a term which is commonly used in the US. Because these funds are open-ended, the price at which they can be bought and sold relates directly to the underlying value per share of the entire portfolio.

Investment trusts are an example of a ‘closed-ended’ investment scheme. The defining characteristic of these is that the number of shares on offer does not change according to investor supply or demand, but is limited to the amount in issue. These investments are bought and sold on the stock market and can trade at a premium or discount to the underlying value per share of the portfolio depending on the level of supply and demand for the shares.

Investment concepts
‘Long only’ is one of the most common investment styles in fund management. It refers to buying a basket of stocks and/or bonds with the aim of generating returns through an increase in the price of the underlying holdings and from any income generated by these holdings.

‘Absolute return’ is a style of investment which aims to produce a positive return in all market conditions. It involves quite sophisticated strategies, including the use of derivatives to create short positions where the manager seeks to profit from a fall in the price of an underlying security.

Asset classes
Investments can usually be made in a number of different asset classes, such as stocks, bonds, currencies and cash.

Multi-asset funds may adopt ‘long only’ or ‘absolute return’ strategies. Typically they invest across a number of different asset classes, especially those that do not move in correlation, and thereby attempt to reduce the volatility of returns.

Active management involves trying to select a range of investments with the aim of outperforming a particular benchmark index. The ultimate aim of active managers is to generate positive ‘alpha’, i.e. invest in stocks that outperform the market and return more than is expected given the perceived level of risk the shares carry.

Passive management involves trying to replicate the performance of a particular index, such as the FTSE All-Share. Tracker funds are a form of passively managed fund.

Not putting all your eggs in one basket
Diversification is the technical term for ‘not putting all your eggs in one basket’. In theory, stock-level risk can be reduced by holding about 20 to 30 different stocks, so that a downturn in the fortunes of one holding may be mitigated by the performance of other holdings in the fund.

Additional diversification across countries, sectors and asset classes is needed to reduce macroeconomic and political risk.

Channelling investments
Asset allocation involves channelling investments across asset classes, geographic regions and/or market sectors. A weighting toward bonds might be increased to boost a portfolio’s income, for example, or greater investment might be made in emerging markets for those seeking growth who are prepared to accept a higher level of risk.

Company share prices
A ‘bottom up’ approach focuses on the prospects and valuations of individual shares while a ‘top down’ approach focuses on broad economic issues or market themes that have the potential to influence company share prices. Many managers may incorporate both into their investment processes, but usually have an emphasis on one or the other.

Investment biases
Growth and value describe certain investment biases adopted by funds and fund managers. A growth manager will look for stocks with good earnings momentum, but be careful not to buy when expectations are too optimistic (i.e. stocks are highly priced). Small and mid-sized companies from flourishing industries tend to be good growth candidates. A value manager ideally looks for attractively priced businesses that have fallen out of favour with the market and have been neglected, but whose fortunes are expected to change. ν

Past performance is not necessarily a guide to the future. The value of investments and the income from them can fall as well as rise as a result of market and currency fluctuations and you may not get back the amount originally invested. Tax assumptions are subject to statutory change and the value of tax relief (if any) will depend upon your individual circumstances.

Even in challenging markets there are opportunities to be found

Post the credit crunch of 2008, the banking crisis, concerns over the Eurozone and continuing low interest rates have tested even the most unwavering investor. There is no doubt that these are some of the toughest economic conditions we have seen for many years.

Even in challenging markets there are opportunities to be found and investing in shares or bonds (fixed interest assets) over the long-term presents a greater opportunity than not investing at all, for several good reasons.

Long-term view
Markets have survived events such as the Great Depression of the 1930s and the recession of the early 1990s. Short-term movements in the price of stocks and shares are smoothed out over the long term, putting dramatic losses and sudden gains into perspective. Staying invested can increase the likelihood that your investment will benefit from rebounds in the market and minimise the overall impact of volatility on your potential returns.

Cash or shares?
In a volatile environment it is tempting to transfer investments to a more secure asset class such as cash, waiting to reinvest when the market settles. However, you could miss the opportunity of a market rebound. In addition, although cash retains its capital security, over the long-term it will suffer the erosional effects of inflation, especially if interest rates remain at current lows.

Keeping invested
Negative commentary often results in investors taking flight in difficult markets, with investments being sold when the price is falling and bought when the market is rising, which can be a costly strategy. The current investment environment still presents many opportunities with many good-quality companies. We can advise you how to identify these opportunities.

Focus on your goals
A key challenge for investors is to decide which is the greater risk: potentially losing money over the short term or not achieving investment goals at all. With life expectancies increasing and retirements sometimes lasting as long as 20 or more years, planning ahead and investing for the future is becoming more and more important.

Making the right choice
With such a wide choice of funds on the market to choose from, making the right choice can be daunting, particularly as even very similar funds can deliver significantly different returns. If you want to invest but are unsure where, we always recommend you seek professional financial advice. Past performance is no guide to the future. The value of an investment can fall as well as rise, may be affected by exchange rate variations and you may get back less than you originally invested.

A guide to the jargon of protection

Assured
A person or persons who are insured under the terms of a protection policy.

Convertible Term Assurance
A term assurance plan that gives the owner the option to convert the policy to a whole-of-life contract or endowment, without the need for medical checks.

Critical Illness Cover
Critical illness cover is an insurance plan that pays out a guaranteed tax-free cash sum if you’re diagnosed as suffering from a specified critical illness covered by the plan. There is no payment if you die. You can take out the plan on your own or with someone else. For joint policies the cash sum is normally payable only once, on the first claim.

Decreasing Term Assurance
A term assurance plan designed to reduce its cover each year, decreasing to nil at the end of term. Decreasing term assurance cover is most commonly used to cover a reducing debt or repayment mortgage.

Deferred Period
A period of delay prior to payment of benefits under a protection policy. Periods are normally 4, 13, 26 or 52 weeks – the longer the period, the cheaper the premium.

Family Income Benefit
A term assurance policy that pays regular benefits on death to the end of the plan term.

Guaranteed Premiums
This means the premiums are guaranteed to remain the same for the duration of the plan, unless you increase the amount of cover via ‘indexation’.

Income Protection
This insurance provides you with a regular tax-free income if, by reason of sickness or accident, you are unable to work, resulting in a loss of earnings. Income protection is also known as permanent health insurance (PHI).

Indexation
You can arrange for your insurance benefit and premiums to increase annually in line with inflation or at a fixed percentage. Premiums are normally increased in line with RPI (Retail Prices Index) or NAEI (National Average Earnings Index).

Insurable Interest
A legally recognised interest enabling a person to insure another. The insured must be financially worse off on the death of the life assured.

Joint Life Second Death
A policy that will pay out only when the last survivor of a joint life policy dies.

Key Person (Key Man) Insurance
Insurance against the death or disability of a person who is vital to the profitability of a business.

Level Term Assurance
A life assurance policy that pays out a fixed sum on the
death of the life assured within the plan term. No surrender value is accumulated.

Life Assured
The person whose life is insured against death under the terms of a policy.

Life Insurance
An insurance plan that pays out a guaranteed cash sum if you die during the term of the plan. Some term assurance plans also pay out if you are diagnosed as suffering from a terminal illness. You can take out the plan on your own or with someone else. For joint life insurance policies the cash sum is normally payable only once, on the first claim.

Long-term Care
Insurance to cover the cost of caring for an individual who cannot perform a number of activities of daily living, such as dressing or washing.

Mortgage Protection
‘Mortgage life assurance’ or ‘repayment mortgage protection’ is an insurance plan to cover your whole repayment mortgage, or just part of it. The policy pays out a cash sum to meet the reducing liability of a repayment mortgage. You can take out the policy on your own or with someone else. For joint policies the cash sum is normally payable only once, on the first claim.

Paid-up Plan
A policy where contributions have ceased and any benefits accumulated are preserved.

Permanent Health Insurance
Cover that provides a regular income until retirement should you be unable to work due to illness or disability. Also known as Income Protection.

Renewable Term Assurance
An ordinary term assurance policy with the option to
renew the plan at expiry without the need for further
medical evidence.

Reviewable Premiums
Plans with reviewable premiums are usually cheaper initially; however, the premiums are reviewed regularly and can increase substantially.

Surrender Value
The value of a life policy if it is encashed before a claim due to death or maturity.

Sum Assured
The benefit payable under a life assurance policy.

Term Assurance
A life assurance policy that pays out a lump sum on the death of the life assured within the term of the plan.

Terminal Illness
Some life policies include this benefit free of charge and this means the life insurance benefit will be paid early if you suffer a terminal illness.

Total Permanent Disability Cover
Also known as permanent health insurance or income protection and sometimes available as part of a life assurance policy, this pays out the benefit of a policy if you are unable to work due to illness or disability.

Trusts
Many insurance companies supply trust documents when arranging your policy. Placing your policy in an appropriate trust usually speeds up the payment of proceeds to your beneficiaries and may also assist with inheritance tax mitigation.

Waiver of Premium
If you are unable to work through illness or accident for a number of months, this option ensures that your cover continues without you having to pay the policy premiums.

Whole-Of-Life
Unlike term assurance, whole-of-life policies provide life assurance protection for the life of the assured individual(s). Cover may either be provided for a fixed sum assured on premium terms established at the outset or flexible terms which permit increases in cover once the policy is in force, within certain pre-set limits, to reflect changing personal circumstances.

Don’t overlook your most important assets, the people who drive your business

Every business has key people who are driving it forward. Many businesses recognise the need to insure their company property, equipment and fixed assets. However, they continually overlook their most important assets, the people who drive the business – a key employee, director or shareholder.

Key person insurance is designed to compensate a business for the financial loss brought about by the death or critical illness of a key employee, such as a company director. It can provide a valuable cash injection to the business to aid a potential loss of turnover and provide funds to replace the key person.

Share and partnership protection provides an agreement between shareholding directors or partners in a business, supported by life assurance to ensure that there are sufficient funds for the survivor to purchase the shares. It is designed to ensure that the control of the business is retained by the remaining partners or directors but the value of the deceased’s interest in the business is passed to their chosen beneficiaries in the most tax-efficient manner possible.

If a shareholding director or partner were to die, the implications for your business could be very serious indeed. Not only would you lose their experience and expertise, but consider, too, what might happen to their shares.

The shares might pass to someone who has no knowledge or interest in your business. Or you may discover that you can’t afford to buy the shareholding. It’s even possible that the person to whom the shares are passed then becomes a majority shareholder and so is in a position to sell the company.

The shareholding directors or partners in a business enter into an agreement that does not create a legally binding obligation on either party to buy or sell the shares but rather gives both parties an option to buy or sell, i.e. the survivor has the option to buy the shares of the deceased shareholder and the executors of the deceased shareholder have the option to sell those shares.
In either case it is the exercise of the option that creates a binding contract; there is no binding contract beforehand. This type of agreement is generally called a ‘cross-option’ agreement or a ‘double option’ agreement.

These are essential areas for partnerships or directors of private limited companies to explore.

Different forms of protection

Key person insurance – compensates your business up to a pre-agreed limit for the loss or unavoidable absence of crucial personnel, including the owner-manager. It is especially appropriate if your business depends on a few employees.

Critical illness cover – pays a sum of money to specific employees or the business owner in the event of a serious illness, such as a heart attack or stroke.

Income protection insurance – protects individuals by paying their salaries while they’re unable to work.

Private health insurance – funds private healthcare for specific employees. As well as being an extra benefit of employment, it could help them to return to work more quickly after an illness by paying for rehabilitation treatment.

Do you have control over what happens to your estate, both immediately after your death and for generations to come?

Following the changes introduced by the Finance Act 2006, trusts still remain an important estate planning mechanism. A trust arrangement can ensure that your wealth is properly managed and distributed after your death, so that it provides for the people who depend on you and is enjoyed by your heirs in the way you intend.
A trust is often the best way to achieve flexibility in the way you pass on your wealth to future generations. You may decide to use a trust to pass assets to beneficiaries, particularly those who aren’t immediately able to look after their own affairs. If you do use a trust to give something away, this removes it from your estate provided you don’t use it or get any benefit from it. But bear in mind that gifts into trust may be liable to inheritance tax.

Trusts offer a means of holding and managing money or property for people who may not be ready or able to manage it for themselves. Used in conjunction with a Will, they can also help ensure that your assets are passed on in accordance with your wishes after you die. Here we take a look at the main types of UK family trust.

When writing a Will, there are several kinds of trust that can be used to help minimise an inheritance tax liability. On 22 March 2006 the government changed some of the rules regarding trusts and introduced some transitional rules for trusts set up before this date.

A trust might be created in various circumstances,
for example:

• when someone is too young to handle their affairs
• when someone can’t handle their affairs because
they’re incapacitated
• to pass on money or property while you’re still alive
under the terms of a Will
• when someone dies without leaving a Will (England
and Wales only)

What is a trust?
A trust is an obligation binding a person called a trustee to deal with property in a particular way for the benefit of one or more ‘beneficiaries’.

Settlor
The settlor creates the trust and puts property into it at the start, often adding more later. The settlor says in the trust deed how the trust’s property and income should be used.

Trustee
Trustees are the ‘legal owners’ of the trust property and must deal with it in the way set out in the trust deed. They also administer the trust. There can be one or more trustees.

Beneficiary
This is anyone who benefits from the property held in the trust. The trust deed may name the beneficiaries individually or define a class of beneficiary, such as the settlor’s family.

Trust property
This is the property (or ‘capital’) that is put into the trust by the settlor. It can be anything, including:

• land or buildings
• investments
• money
• antiques or other valuable property

The main types of private UK trust

Bare trust
In a bare trust, the property is held in the trustee’s name but the beneficiary can take actual possession of both the income and trust property whenever they want. The beneficiaries are named and cannot be changed.
You can gift assets to a child via a bare trust while you are alive, which will be treated as a Potentially Exempt Transfer (PET) until the child reaches age 18 (the age of majority in England and Wales), when the child can legally demand his or her share of the trust fund from the trustees.

All income arising within a bare trust in excess of £100 per annum will be treated as belonging to the parents (assuming that the gift was made by the parents). But providing the settlor survives seven years from the date of placing the assets in the trust, the assets can pass inheritance tax free to a child at age 18.

Life interest or interest in possession trust
In an interest in possession trust, the beneficiary has a legal right to all the trust’s income (after tax and expenses) but not to the property of the trust.

These trusts are typically used to leave income arising from a trust to a second surviving spouse for the rest of their life. On their death, the trust property reverts to other beneficiaries (known as the remaindermen), who are often the children from the first marriage.

You can, for example, set up an interest in possession trust in your Will. You might then leave the income from the trust property to your spouse for life and the trust property itself to your children when your spouse dies.
With a life interest trust, the trustees often have a ‘power of appointment’, which means they can appoint capital to the beneficiaries (who can be from within a widely defined class, such as the settlor’s extended family) when they see fit.

Where an interest in possession trust was in existence before 22 March 2006, the underlying capital is treated as belonging to the beneficiary or beneficiaries for inheritance tax purposes, for example, it has to be included as part of their estate.

Transfers into interest in possession trusts after
22 March 2006 are taxable as follows:

• 20 per cent tax payable based on the amount gifted into the trust at the outset, which is in excess of the prevailing nil rate band
• Ten years after the trust was created, and on each
subsequent ten-year anniversary, a periodic charge,
currently 6 per cent, is applied to the portion of the trust assets that is in excess of the prevailing nil rate band
• The value of the available nil rate band on each ten-year anniversary may be reduced, for instance, by the initial amount of any new gifts put into the trust within seven years of its creation

There is also an exit charge on any distribution of trust assets between each ten-year anniversary.

Discretionary trust
The trustees of a discretionary trust decide how much income or capital, if any, to pay to each of the beneficiaries but none has an automatic right to either. The trust can have a widely defined class of beneficiaries, typically the settlor’s extended family.
Discretionary trusts are a useful way to pass on property while the settlor is still alive and allows the settlor to keep some control over it through the terms of the trust deed.

Discretionary trusts are often used to gift assets to grandchildren, as the flexible nature of these trusts allows the settlor to wait and see how they turn out before making outright gifts.

Discretionary trusts also allow for changes in circumstances, such as divorce, re-marriage and the arrival of children and stepchildren after the establishment of the trust.

When any discretionary trust is wound up, an exit charge is payable of up to 6 per cent of the value of the remaining assets in the trust, subject to the reliefs for business and agricultural property.

Accumulation and maintenance trust
An accumulation and maintenance trust is used to provide money to look after children during the age of minority. Any income that isn’t spent is added to the trust property, all of which later passes to the children.

In England and Wales the beneficiaries become entitled to the trust property when they reach the age of 18. At that point the trust turns into an ‘interest in possession’ trust. The position is different in Scotland, as, once a beneficiary reaches the age of 16, they could require the trustees to hand over the trust property.

Accumulation and maintenance trusts that were already established before 22 March 2006, and where the child is not entitled to access the trust property until an age up to 25, could be liable to an inheritance tax charge calculated as a percentage of the value of the trust assets.

It has not been possible to create accumulation and maintenance trusts since 22 March 2006 for inheritance tax purposes. Instead, they are taxed for inheritance tax as discretionary trusts.

Mixed trust
A mixed trust may come about when one beneficiary of an accumulation and maintenance trust reaches 18 and others are still minors. Part of the trust then becomes an interest in possession trust.

Trusts for vulnerable persons
These are special trusts, often discretionary trusts, arranged for a beneficiary who is mentally or physically disabled. They do not suffer from the inheritance tax rules applicable to standard discretionary trusts and can be used without affecting entitlement to state benefits; however, strict rules apply.

Tax on income from UK trusts
Trusts are taxed as entities in their own right. The beneficiaries pay tax separately on income they receive from the trust at their usual tax rates, after allowances.

Taxation of property settled on trusts
How a particular type of trust is charged to tax will depend upon the nature of that trust and how it falls within the taxing legislation. For example, a charge to inheritance tax may arise when putting property into some trusts, and on other chargeable occasions – for instance, when further property is added to the trust, on distributions of capital from the trust or on the ten-yearly anniversary of the trust.

Without proper tax planning, could you end up leaving a huge tax liability?

In order to protect family and loved ones, it is essential to have provisions in place after you’re gone. The easiest way to prevent unnecessary tax payments such as inheritance tax is to organise your tax affairs by obtaining professional advice and having a valid Will in place to ensure that your legacy does not involve just leaving a large inheritance tax bill for your loved ones.

Effective inheritance tax planning could save your beneficiaries thousands of pounds, maybe even hundreds of thousands depending on the size of your estate. At its simplest, inheritance tax is the tax payable on your estate when you die if the value of your estate exceeds a certain amount. It’s also sometimes payable on assets you may have given away during your lifetime, including property, possessions, money and investments.

Inheritance tax is currently paid on amounts above
£325,000 (£650,000 for married couples and registered civil partnerships) for the current 2013/14 tax year, at a rate of 40 per cent. If the value of your estate, including your home and certain gifts made in the previous seven years, exceeds the inheritance tax threshold, tax will be due on the balance at 40 per cent.

Without proper planning, many people could end up leaving a substantial tax liability on their death, considerably reducing the value of the estate passing to their chosen beneficiaries.

Your estate includes everything owned in your name, the share of anything owned jointly, gifts from which you keep back some benefit (such as a home given to a son or daughter but in which you still live) and assets held in some trusts from which you receive an income.

Against this total value is set everything that you owed, such as any outstanding mortgages or loans, unpaid bills and costs incurred during your lifetime for which bills have not been received, as well as funeral expenses.

Any amount of money given away outright to an individual is not counted for tax if the person making the gift survives for seven years. These gifts are called ‘potentially exempt transfers’ and are useful for tax planning.

Money put into a ‘bare’ trust (a trust where the beneficiary is entitled to the trust fund at age 18) counts as a potentially exempt transfer, so it is possible to put money into a trust to prevent grandchildren, for example, from having access to it until they are 18.

However, gifts to most other types of trust will be treated as chargeable lifetime transfers. Chargeable lifetime transfers up to the threshold are not subject to tax but amounts over this are taxed at 20 per cent, with a further 20 per cent payable if the person making the gift dies within seven years.

Some cash gifts are exempt from tax regardless of the seven-year rule. Regular gifts from after-tax income, such as a monthly payment to a family member, are also exempt as long as you still have sufficient income to maintain your standard of living.

Any gifts between husbands and wives, or registered civil partners, are exempt from inheritance tax whether they were made while both partners were still alive or left to the survivor on the death of the first. Inheritance tax will be due eventually when the surviving spouse or registered civil partner dies if the value of their estate is more than the combined tax threshold, currently £650,000.

If gifts are made that affect the liability to inheritance tax and the giver dies less than seven years later, a special relief known as ‘taper relief’ may be available. The relief reduces the amount of tax payable on a gift.

In most cases, inheritance tax must be paid within six months from the end of the month in which the death occurs. If not, interest is charged on the unpaid amount. Inheritance tax on some assets, including land and buildings, can be deferred and paid in instalments over ten years. However, if the asset is sold before all the instalments have been paid, the outstanding amount must be paid. The inheritance tax threshold in force at the time of death is used to calculate how much tax should be paid.

Inheritance tax can be a complicated area with a variety of solutions available and, without proper tax planning, many people could end up leaving a huge tax liability on their death, considerably reducing the value of the estate passing to chosen beneficiaries. So without inheritance tax planning, your family could be faced with a large tax liability when you die. To ensure that your family benefits rather than the government, it pays to plan ahead. As with most financial planning, early consideration and planning is essential.