Asset Protection Trusts – appropriate or dangerous?
A growing older and more vulnerable population is at risk of becoming the generation whose children wish to persuade them to part with their homes for fear of losing them in meeting the costs of their care.
The problem is well known – most people wish to pass on an inheritance to their families and many children ‘expect’ to receive the proceeds of their parents’ home on the second death. These concerns make older people easy prey for the unscrupulous to focus only on the benefits of so-called Asset Protection Trusts (APTs) to protect the value of a person’s home from assessment to means tested benefits should the need for care arise, rather than take a more balanced approach.
What those experienced in advising the elderly know is that there are a number of problems attached to simply making a gift of your home, including:
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- The transfer may be treated as “deliberate deprivation” by Local Authority Social Services (LASS) or the Department for Work & Pensions (DWP) and result in no financial assistance being forthcoming when needed in relation to the provision of care because the value of the property will be deemed to still be in the transferor’s estate.
- An outright gift of the home to someone other than the home occupier will mean that the capital gains tax (CGT) principal private residence (PPR) relief for owner occupation will not apply to the property in the future. In addition there will be no tax free uplift to market value on the death of the elderly person as the owner is a separate person.
- SDLT may be payable on the transaction if it is styled to be a ‘sale’ at market value rather than a gift.
- Under the Pre-Owned Assets taxation rules, the donor may be subject to an Income Tax charge after the transfer for continuing to occupy the property on the annual rental value of it unless rent is paid for its continued use.
- With the best intentions in the world, the relatives or other people who are in receipt of the gift may not fulfil their side of the bargain, for example they may not help pay any resultant care fees in excess of the local tariff or place undue pressure on the elderly person to leave the property. Even if they would like to help it may be impossible because the asset is part of their matrimonial pot on divorce or their estate for the purpose of meeting their own debts.
All these risks may outweigh any possible benefits of making an outright lifetime transfer, particularly as there is unlikely to be any inheritance tax (IHT) saving when the elderly person remains resident in the property , any such ‘gift’ being a reservation of benefit (GROB).
To protect against the difficulties mentioned a trust is often suggested as a means of making a gift whilst still enjoying the use of the assets. As to whether what is created is a GROB and whether that matters to the client this is for individuals to discuss on a case by case basis.
So, IHT to one side, can you succeed in making an APT – a trust which will protect the trust assets from assessment to means tested benefits?
The Local Authority Social Services department (LASS) must carry out an assessment of the individual’s ability to pay if it decides that a home placement is needed and will then carry out its means testing procedure. (For more information about the details see Age UK website).
If the applicant has more than £23,250 worth of capital s/he will have to pay the full cost of the home fees. Please note according to Age UK
“..new rules are set to increase this means-test threshold from £23,250 to £123,000. This change will not come into force, though, until April 2017. At this point, care costs will also be capped at £75,000.”
For a permanent admission (not a temporary one) any property owned by the applicant will be taken into account as part of the capital unless occupied by a partner, spouse older relative, incapacitate relative or a child who is the responsibility of the applicant. The LASS has the discretion to ignore the value of the property if someone else lives there who does not fit into any of those categories.
Other interests which are disregarded include:
- a reversionary interest under a trust or freehold reversion in property subject to a lease
- the value of the right to receive income as life tenant under a trust
- personal possessions, unless purchased to reduce capital
- the value of the right to receive any income under an annuity
Two or more joint owners of property will be assessed as owning equal proportions regardless of how much was actually contributed to the purchase unless there is written evidence to the contrary. A sale of his/her interest by an applicant for support at its actual value will not be considered a deliberate deprivation of capital.
Therefore, using a trust to protect assets may work for some clients.
Whilst each case will always need to be considered on its merits it remains the case that whatever paperwork is produced all too often avoidance of the charge for accommodation was a significant motive for the transfer. The Guidance “Charging for Residential Accommodation Guide” (CRAG) paragraphs 6.062 and 6.064, in which the Department of Health advises local authorities to consider the purpose for which the asset was disposed and encourages the LASS to treat such significant motive as deliberate deprivation.
Types of trust
There is no separate type of trust which is an APT instead the phrase is simply a way of emphasising its purpose, which one might say already reflects that its ulterior motive is avoidance of meeting care home fees.
The types of trust available are either going to be discretionary or an interest in possession trust. Either way, a gift into trust will mean a chargeable transfer for IHT if made during the lifetime of the donor so valuation of the ‘gift’ will be important to ensure a charge to 20% IHT on the excess over the nil rate band is avoided. Where a gift is made then there will always be the question of whether the LASS has the power to regard that gift as a deprivation of assets.
Sales rather than gifts
If the property interest is not gifted but sold to the trust then although deprivation of assets may be avoided then another tax raises its head: SDLT may be relevant on the sale price if over the threshold of £125,000 and again a formal valuation of the property interest will be required to establish that the price paid is actual market value, otherwise the amount by which the price paid is under the market value will be a ‘gift’ and use of it may constitute a GROB for IHT. Even if that is of no consequence to the client now it may become important by the time they die.
Whilst tax, especially IHT, may not seem to be the likely problem any documents prepared before 6 April 2005 and still used to-day may incur an annual charge to POT for the client instead. This is because although the value transferred into a trust may have been below the nil rate band threshold nevertheless if the settlor still occupies the property without paying at all times the market rent for its use then the POT charge is payable if a GROB is avoided. POT could be prevented by an excluded transaction or exemption (e.g. because the annual rental value of the property was less than £5,000) but this is a complex set of rules to explain to an elderly person and their family.
Use of leases
Equally, if more complex arrangements are made using leases or reversionary leases will Her Majesty’s Revenue & Customs still accept their IHT efficacy and what warnings were given about future tax liabilities if the value of the property continues to grow when the nil rate band is frozen until 5 April 2018? Also, how easy will it be to sell the property if the clients are young enough to want to downsize in later years before needing care?
Trusts on death
If a common sense approach is taken and a trust over a person’s estate on death envisaged then this becomes much simpler both to effect and explain. Admittedly, the value of the surviving spouse or civil partner’s equitable share in the property may have to be used in meeting care fees initially but the deceased person’s share can be put into either an immediate post death interest (IPDI) trust or a discretionary trust. The advantage of the former is that it is both easier to understand and gives the survivor the right to occupy and enjoy the trust property however, for means tested benefits the capital value of the fund is ignored when assessing the means of the person enjoying the interest.
Where the testator owns other assets and not just the house then an IPDI in the whole estate may be appropriate; but where the value of those other assets is small it would be more practicable to leave only the share of the house to an IPDI trust.
Where the parties are not married or civil partner then the nil rate band discretionary trust will be needed to ensure the nil rate band of the first person to die is used and only the excess may result in double taxation on the second death. This is because unmarried or non-civil partners do not enjoy the transferable nil rate band mechanism.
There is no fool proof way of avoiding the value of the assets being taken into account for means testing whilst alive; indeed as we know only too well, public values change and the law can be altered so that it can apply retroactively even if not retrospectively.
Clients need individual advice about what is appropriate for them and not a sales pitch of a one-size fits all approach to a huge bundle of paperwork which is labelled ‘asset protection trust’, particularly when the ground rules may have changed since any documentation was first drafted.
Some clients are willing to take risks but care should be taken to ensure that the full extent of risk is explained rather than focus on one aspect to the detriment of the client’s peace of mind.