IHTM42224 | The settlement: powers of accumulation

Importance

The importance of accumulations generally is that

• a power of accumulation will deny an interest in possession (IIP) arising and that

• when income is accumulated it is converted to capital at that date. It becomes relevant property and is within our claims for tax.

As it becomes capital at a date later than the settlement date, accumulated income will be given relief for the period in the 10-year cycle that the property was not relevant property, see IHTA84/S66 (2).

For the purposes of determining whether the accumulated income is excluded property (IHTM04271) it is the settlor’s domicile at the time the original capital was settled (the capital that produced the income) that is relevant (IHTA/s48(3E)).

Where income on hand has not been accumulated, it is undistributed income. Thus, it is not capital, it is not relevant property, and it is excluded from any inheritance tax charge. However, the position is different where the 10 year anniversary (TYA) charge arises on or after 6 April 2014 (IHTM42166)

In a case where an accumulation power might be material you should check

• that there is a power of accumulation in the deed and

• that it was exercisable at any relevant date.

A statutory power of accumulation is given to trustees when the beneficiaries include minors unless that power is excluded or modified by the deed (Trustee Act 1925/S31).

Accumulation periods

A definite ‘perpetuity’ period must be set in every trust (except Scottish trusts - see below). Parliament acts against locking money away from circulation for excessive periods.

Under the Perpetuities and Accumulations Act 2009 the statutory period is 125 years for settlements after 5 April 2010.

Before then the most common accumulation period was 21 years (see the Perpetuities and Accumulations Act 1964).

After the accumulation period

If a trust power provides for accumulations for a period which is longer than the prescribed period, it is not wholly void but is void as to the excess length of time.

When the accumulation period expires the trustees must not accumulate income after that date but must distribute it as the terms of the settlement direct.

The terms of the settlement at the end of the accumulation period will vary. The two most likely results are

• the income may continue to be subject to the trustees’ discretion, in which case the trusts are still ‘discretionary’, or

• the lack of an accumulation power may give rise to an IIP. Prior to 22 March 2006 this would have given rise to an exit charge under IHTA/S65 but since then the interest will almost certainly give rise to a non-qualifying interest and no charge should arise when the accumulation period ends.

Scottish Law

Scottish Law does not have any rules against perpetuities. There are also some differences regarding minors and unborn persons. (IHTM42700)

Distributing, storing or earmarking income

Exceptionally a power of accumulation may be implied, for example

• accumulation is not specifically mentioned but the trustees are directed to hold income until a specified date, for example the tenth anniversary of the millennium or,

• where the trustees have power to apply whole or part income for the maintenance or benefit of a beneficiary and they have no power to pay income to anyone else. No part must be accumulated.

The trustees have a reasonable period in which to consider what to do with the income, and this period depends on the facts of the case. Refer to Re Gulbenkian’s Settlement Trusts No.2 [1970] Ch 408

Where trustees have no power to accumulate, all income is undistributed income and outside our claims.

Income is either distributed/undistributed or accumulated. Although it can be ‘stored up’ in the form of undistributed income for quite long periods it cannot, at the same time, be said to belong to the class of objects as a group and ‘earmarked’ only for some or all of them, thus permitting the trustees to buy capital assets which are outside the terms governing the capital of the settlement.

The concept of ‘earmarked’ undistributed income offends against the idea of discretionary trusts. The trustees’ ability to pay/distribute lies in the trusts or powers of the deed and they must act under those trusts/powers. Until a positive exercise of the discretion has been made, the objects are in no better position than before – they are only entitled to be considered.