Bare Trust as IHT mitigation tool?

Bare Trust as IHT mitigation tool?

9:57 AM, 11th November 2019, About 2 years ago 26

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I wonder if anyone could comment on this case.

Two sisters own an unencumbered (mortgage free) leasehold flat with share of the freehold on the residue of a 999-year lease, value approximately £1.2-1.5 million, in London as tenants in common. They are both retired and in their late 60s.

To mitigate inheritance tax, they are considering setting up two Bare Trusts, one for each, into which each will transfer their 50% ownership as donor for the benefit of the other.

Since the property is and has always been their only residence, they will be entitled to Private Residence Relief (PRS) and they envisage that there will be no CGT payable on transfer of the asset into a Bare Trust.

As it is their private residence there is no rental income generated therefore no income tax liability arises.

Since they will be transferring property assets into a Bare Trust, they understand that this will be considered Potentially Exempt Transfers (PET) and there will be no liability to IHT on set up and no IHT liability at 10 yearly intervals, as would have been the case with a Discretionary Trust. Should they survive 7 years then the asset in trust becomes IHT free on death of either and can pass to the surviving sister IHT free allowing her to continue living in the flat unencumbered.

Are their assumptions correct? Can a Bare Trust be used in this scenario or is it only a Discretionary Trust that can remove assets from an estate?

Any comments or suggestions welcome.



by Mark Alexander

2:06 AM, 13th November 2019, About 2 years ago

Reply to the comment left by Howard Reuben CeMap CeRER at 12/11/2019 - 15:52
Another way of looking at this is that the sisters would have to live to well beyond 100 years of age before paying more into the policy than they would get out.

by Puzzler

7:44 AM, 16th November 2019, About 2 years ago

I think you need specialist advice but what about leaving a life interest to the surviving sister and the residue to the final beneficiaries whoever they may be. There are IHT breaks if that is a charity. If family or friends, there will be a hefty IHT bill, but it's a windfall for them in any case.

by Puzzler

8:06 AM, 16th November 2019, About 2 years ago

Reply to the comment left by Puzzler at 16/11/2019 - 07:44
I have found this link - - see interest in possession

You could save the tax is if it is known which sister will go first and survives more than 7 years after making the gift. That is, you'd would have to take a gamble (health issues might improve the odds of getting it right). If you were wrong the surviving sister would be no worse off than she is now.

by Iain

8:24 AM, 16th November 2019, About 2 years ago

Reply to the comment left by Puzzler at 16/11/2019 - 08:06
Hi Puzzler - unfortunately, life interest/interest in possession trusts don't help in this situation. Such a trust set up during a person's lifetime are subject to the same IHT rules as discretionary trusts - so there would be an entry charge, anniversary and exit charges, possible problems with the gift with reservation of benefit rules etc (see my earlier posts).

IHT planning with the family home is very difficult, unfortunately. In these circumstances, if the issue is funding an IHT liability on the first death then arguably life assurance is the best bet. Either that, or downsizing.

by Puzzler

8:36 AM, 16th November 2019, About 2 years ago

Reply to the comment left by Puzzler at 16/11/2019 - 08:06
But the sister who transfers her share will no longer have any interest in the property which might be a risky position. She could transfer a smaller share and set up a deed of trust. There is no point in a bare trust as it changes nothing. A discretionary trust does not remove assets from an estate as such, there are complicated rules for setting up and different tax arrangements and charges.

I am no expert on this - they need professional specialist advice.

by Darren Peters

12:21 PM, 16th November 2019, About 2 years ago

I wonder if there's an equity release product that releases a big chunk of money but is only repayable on the death of the 2nd sister, interest rolled up.

Ie pull out half a million, 250K each. So value of equity of each sister is now £500,000.

£500K -£325K - 275K additional rate = no IHT liability if one sister died the next day.
As time went on, the value of each sister's half share could go up to £825K before any IHT due BUT as time goes on, the equity share of the sisters decreases in favour of the equity release company.

The upside of having £250K to blow on bingo and no complicated legal cost to the sisters would need to be balanced with the risk of needing to sell and move somewhere else and having little or no money left in the house.

by Colin McNulty

4:46 AM, 19th November 2019, About 2 years ago

Reply to the comment left by Darren Peters at 16/11/2019 - 12:21Deliberately vague post (see disclaimer at the end). There might be another way Darren, depending on the attitude to risk and the particular circumstances.
As per your example, an interest only mortgage is taken out, sized deliberately to reduce residual value of the estate and resultant IHT to the level covered by the applicable allowances. Qualified professional tax advice would be needed here.
However instead of blowing that mortgage money on bingo, the cash is invested in as safe a way as possible, whilst attempting to provide an income which services the monthly mortgage interest. This would be tricky I realise and quite likely to not cover the whole interest payment, and any shortfall would have to be made up from other income.
Then on the FIRST death, assuming nothing has changed wrt IHT levels and allowances, nor the estate's value, no IHT is payable and the mortgage can simply be repaid from the capital that remains (assuming the investment vehicle chosen has not fallen in value of course).
This approach would have to be carefully weighed against the insurance route already mentioned, in terms of risk vs monthly cost.
I'm making many assumptions here, not least of which is what the motivations are; e.g. I'm assuming the intention is to allow the 2nd client to remain in the property without having to sell the house to pay any IHT due. Other motivations (revealed during a proper fact find) may drive a different approach.
Disclaimer: The above is not personalised financial advice but an example of a possible approach that could be explored after a proper fact find was carried out by one of our suitably qualified and regulated brokers.

by Iain

7:11 AM, 19th November 2019, About 2 years ago

Reply to the comment left by Colin McNulty at 19/11/2019 - 04:46
As you say Colin, qualified tax advice is an absolute must - not least because the tax adviser would spot that the investments would also be liable to IHT. In addition, it's no longer possible to reduce IHT by borrowing against a property to fund BPR-qualifying investments - the debt isn't deductible for IHT.

Borrowing against an asset only works to reduce your IHT liability if you plan to dispose of the cash, most often by way of gift to children (but spending also works). However, the cost of borrowing has to be taken into account. Assume an interest rate of 2.5%. In 16 years, you will have paid as much in servicing the interest on the loan as you would have spent on the IHT bill anyway.

by Darren Peters

10:33 AM, 19th November 2019, About 2 years ago

Colin, it may be problematic (but not impossible) for the sisters to get a mortgage in their '60s and then they have the new problems of finding the interest payments and what to do if they survive to the end of the mortgage term. Hence the equity release suggestion.

As Iain says above if the money drawn out of the house continues to exist in the sisters' name, whether in a bank or an investment, it remains part of their estate.

There's no mention of whether the sisters already have a source of income nor whether they want a 3rd person to benefit from their estate. These factors will have a bearing on any actions to be taken.

Frederick could you post back after everything is decided to let us know how this played out please?

by Mark Alexander

14:26 PM, 19th November 2019, About 2 years ago

There is, of course, a solution available to the surviving sister in this instance whereby she would not lose her home.

On the death of the first sister the second sister could obtain a lifetime mortgage to pay the IHT.

I appreciate that is the not the outcome that either sister wants, but it might be more preferable than downsizing.

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