Definition
An interest-in-possession trust is a type of fixed-interest trust wherein the designated beneficiaries, known as life tenants, have an entitlement to the trust’s income for a specified term or until their demise. This ensures that the income generated by the trust’s assets is reserved for the life tenants. Post this period, the capital held within the trust is then transferred to another beneficiary known as the remainderman.
Formerly, any lifetime transfer into an interest-in-possession trust was considered a potentially exempt transfer for inheritance tax purposes. However, since March 2006, such transfers are generally no longer allowed unless the trust is designed to benefit a disabled person. This type of trust contrasts with a discretionary trust, where trustees have more leeway in distributing income and capital.
Examples
Example 1: Family Trust
- A grandmother sets up an interest-in-possession trust to provide her son (the life tenant) with income during his lifetime. Upon his death, the capital is to be split between her grandchildren (the remaindermen).
Example 2: Estate Planning
- An individual creates an interest-in-possession trust to provide his spouse with a source of income after his death. Once the spouse passes away, the remaining assets in the trust will then be transferred to their children.
Frequently Asked Questions (FAQs)
Q1: What is the key difference between an interest-in-possession trust and a discretionary trust?
- A1: An interest-in-possession trust guarantees income to particular beneficiaries (life tenants) for a set period or until their death, whereas a discretionary trust allows trustees to decide how and when income or capital from the trust is distributed among beneficiaries.
Q2: Can new interest-in-possession trusts be created for tax purposes now?
- A2: New interest-in-possession trusts cannot be created for inheritance tax advantages post-March 2006, except for trusts designed for disabled individuals.
Q3: Who are the main parties involved in an interest-in-possession trust?
- A3: The main parties involved include the settlor (creator of the trust), life tenants (beneficiaries entitled to income), trustees (administrators of the trust), and remaindermen (beneficiaries who receive the capital after life tenants).
Q4: What happens if the life tenant of an interest-in-possession trust dies?
- A4: Upon the death of the life tenant, the capital in the trust is automatically transferred to the remaindermen designated in the trust deed.
Q5: Are there any specific tax implications for income received from an interest-in-possession trust?
- A5: Yes, typically, the income received by life tenants is subject to income tax as usual. The trust itself may face certain tax obligations, such as inheritance tax, depending on how it’s structured.
Related Terms
- Life Tenant: An individual entitled to the income generated by the trust for their lifetime or a set period.
- Remainderman: The beneficiary who receives the capital of the trust after the life tenant’s interest ends.
- Discretionary Trust: A trust where trustees have the discretion to decide how income or capital is distributed among the beneficiaries.
- Potentially Exempt Transfer (PET): A transfer that could be exempt from inheritance tax if the donor survives for seven years after the transfer.
- Inheritance Tax: A tax levied on the estate of the deceased upon transfer to beneficiaries.
Online References
Suggested Books for Further Studies
- “Trusts and Equity” by Richard Edwards and Nigel Stockwell
- “Law of Trusts (Core Texts Series)” by Alastair Hudson
- “Understanding Trusts and Estates” by Roger W. Andersen and Ira Mark Bloom
Accounting Basics: “Interest-in-Possession Trust” Fundamentals Quiz
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