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Trust Income Tax

Author

Andy Wood

Andy is a practical, creative tax adviser who assists a variety of clients in achieving their personal and commercial objectives in the most tax efficient manner.

Trust Income tax

General position

 The trustees will pay income tax any trust income

They will pay this tax on behalf of the trust under the normal self-assessment rules. In other words, the same filing deadlines and payments on account rules as for individuals will apply.

Of course, the Trustees’ responsibility to deal with the tax affairs of the trust exist completely separately from their own tax affairs.

Trust income tax – Interest in Possession (“IIP”) trust

An IIP’s trustees will be required to pay tax on the trust’s gross annual income at the basic rate. The level of income of the trust is irrelevant.

The Trustees cannot obtain relief for the income expenses of the trust. However, these expenses are taken into account as and when any distributions are made to the beneficiaries, as discussed below.

Trust income tax – Discretionary trusts (“DT”)

As can be seen from our other articles,theTrustees of a DT enjoy a high level of discretion over the management and application of the trust’s property.

However, with such power comes great responsibility! Or, in the case of a DT, it comes at an increased tax cost.

What cost is that?

Well, Trustees of DTs pay tax on the income that has arisen at, what is called, the Rate Applicable to Trusts (“RAT”). This rate is currently aligned to the highest rate of tax that can apply to an individual (the additional 45% rate).

This rate applies to all of the trust’s income other than:

  • Income used to cover the trust’s income expenses; and
  • the first £1,000 of gross income received by the DT trustees

However, matters do not end there. Things are further muddied by the requirement to maintain something known as the ‘tax pool’. This is a cumulative total of tax paid by the trustees less any tax used to frank income distributions (and should never be allowed to be a negative figure).

Trust income tax – Compliance

For both IIPs and DTs, the Trustees are required to for complete Form R185 for years in which income distributions have been made. These forms should be passed on to the relevant beneficiaries.

Form R185 shows:

  • the income distributions made to the beneficiary in the year;
  • the associated tax credit.

HMRC will require this evidence in order for the beneficiary to be able to claim the tax credit against his or her distribution.

Beneficiary’s tax return – IIP

However, that is not the end of the tax jiggery-pokery. The beneficiary must also account for the distribution he or she has received.

In this regard, the distributions are taxed at the IIP beneficiary’s marginal rates keeping depending on the underlying income type. If the taxpayer is a higher or additional rate tax payer, further tax will be due on the income distributions.

Beneficiary’s tax return – DT

Again, we need to stick the income distribution on the beneficiary’s tax return.

Discretionary distributions are always taxed on the beneficiary as non-savings income regardless of the underlying income type.

Given the rates of personal tax and trust tax are now aligned there will never be any further tax to pay by the beneficiary on receipt of an income distribution from a discretionary trust, in fact there may be a tax repayment depending on the beneficiary’s level of other income.

If you have any queries on trust income tax, or trust taxation in general, then please get in touch.

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