HMRC Inheritance Tax: Customer Guide

Contents

What is an ’age 18 to 25 trust’?

From 22 March 2006, an ‘age 18 to 25 trust’ is a trust created under the will of a deceased parent or step-parent or established under the Criminal Injuries Compensation Scheme where the property in the trust is held for the benefit of a person aged under twenty-five and the beneficiary will become absolutely entitled to the whole of the property on or before their 25th birthday.

Existing accumulation and maintenance trusts created before 22 March 2006 will only become age 18 to 25 trusts if the terms of the trust are rewritten so that the beneficiary will become absolutely entitled to the property in the trust on or before their 25th birthday. If the terms of the trust are not rewritten before 6 April 2008, and the trust has not come to an end, then existing accumulation and maintenance trusts will automatically become relevant property trusts on 6 April 2008.

When is inheritance tax charged on an ‘age 18 to 25 trust’?

There are several occasions when inheritance tax is charged on an age 18 to 25 trust.

There is an age 18 to 25 exit charge when

  • the beneficiary becomes absolutely entitled to the property in the trust between their 18th and 25th birthdays
  • some of the property in the trust is distributed to the beneficiary
  • the beneficiary dies aged over 18

There is a flat-rate charge when an age 18 to 25 exit charge does not apply and the trustees make a disposition which reduces the value of the property in the trust. This would include an occasion when the trustees fail to exercise a right (unless the failure was not deliberate).

Are there any exceptions to the age 18-25 exit charge?

Yes, inheritance tax is not charged

  • when the beneficiary becomes absolutely entitled to the property in the trust on or before their 18th birthday
  • when some of the property in the trust is distributed to the beneficiary before their 18th birthday
  • on payments that are subject to income tax in the hands of the recipient
  • on payments by the trustees of costs and expenses which are attributable to property in the age 18-25 trust
  • when the beneficiary dies aged under 18
  • on a decrease in value resulting from a bad bargain made by the trustees, if there was no intention to benefit from the disposition
  • on a decrease in value resulting from the granting for full consideration of an agricultural tenancy.

How is the age 18 to 25 exit charge calculated?

An age 18 to 25 exit charge is calculated on the chargeable amount (which is the loss to the trust), multiplied by the relevant fraction and then multiplied by the settlement rate.

The formula for calculating an age 18 to 25 exit charge is:

chargeable amount x relevant fraction x settlement rate = tax on the age 18 to 25 exit

The relevant fraction is three tenths multiplied by as many fortieths as there are successive quarters in the period beginning on the eighteenth birthday of the beneficiary and ending on the day before the date of the exit from the trust.

The settlement rate is the tax that would be chargeable if an immediately chargeable transfer of the amount of the exit had happened on the date of the exit, expressed as a percentage of the value of the settlement. The value of the settlement is the amount that went into the settlement when it was set up, plus any related settlements, the settlor’s cumulative total and the value of any property which has been added to the settlement.

Example

The age 18 to 25 trust was set up on 9/1/2000 with £400,000.

There are no related settlements.

The settlor had made no other chargeable transfers, so the settlor’s cumulative total is nil.

No property has been added to the settlement.

The 18th birthday of the beneficiary was on 12/5/2006

A distribution of £300,000 is made to the beneficiary on 19/8/2010, giving rise to an age 18 to 25 exit charge. The nil rate band at that time is £325,000.

Calculation

Tax on settlement at lifetime rates = (£400,000 – £325,000) x 20%
= £15,000

Settlement rate (%) = 15,000 x 100 / 400000
= 3.75%

Relevant fraction = 3/10 x 17/40

The tax on the age 18 to 25 exit is

Chargeable amount x relevant fraction x settlement rate

= £300,000 x 3/10 x17/40 x 3.75%

= £1,434 tax

If the beneficiary is not paying the tax and the tax is being paid from the property left in the settlement, the transfer will have to be ‘grossed up’ in order to calculate the tax due.

How do you do a ‘grossing up’ calculation?

If, in the example above, the tax on the £300,000 distribution to the beneficiary is being paid from the property left in the settlement, £300,000 represents the value of the distribution net of tax. To find the gross value of the distribution we need to “gross-up” the value using the following formula:

value of distribution x 100 / (100 – (settlement rate x 3/10 x no of quarters/40))

Example (using the figures from the example above)

£300,000 x 100 / (100 - (3.75 x 3/10 x 17/40))

= £300,000 x 100 / (100 – 0.478)

= £300,000 x 100 / 99.522

= £301,440 (grossed-up value of the distribution)

Recalculate the tax:

£301,440 x 3/10 x 17/40 x 3.75%

= £301,440 x 0.478%

= £1,440 tax

How is the flat-rate charge calculated?

If a flat-rate charge applies, it is charged on the value of the property leaving the age 18 to 25 trust and the length of time the property was held in the age 18 to 25 trust at the rate of

  • 0.25% for the first complete 40 quarters (10 years)
  • 0.2% for each of the next complete 40 quarters, reducing by 0.05% for each succeeding 40 quarters (up to 50 years).