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What is a ‘vulnerable beneficiary’?

A beneficiary is anyone who benefits from a trust. A ‘vulnerable beneficiary’ is either:

• a person who is mentally or physically disabled
• someone under 18 - called a ‘relevant minor’ - who has lost a parent through death
  

Trusts that qualify for special tax treatment

If a trust is set up for a vulnerable beneficiary, the trustees can claim special treatment for Income Tax and Capital Gains Tax if it’s a ‘qualifying trust’. It can't be a qualifying trust if the person who sets up the trust can benefit from the income of the trust. However it can be a qualifying trust in respect of Capital Gains Tax for the years 2008-09 onwards.

Qualifying trusts for a disabled person

The assets in these trusts such as money, land or buildings, can be used only to benefit a disabled person. The disabled person must be entitled to all the income or, if they're not, none of the income can be applied for the benefit of anyone else.

Qualifying trusts for a relevant minor

These trusts are commonly set up:

• by the will of a parent who has died - the assets and income must be used only for the relevant minor, and when they reach 18 they must get all the trust's assets
  
• under the ‘rules of intestacy’ - the special rules of inheritance that apply when someone dies without making a will
  

The rules of intestacy are different in Scotland and Northern Ireland. If a trust is set up there for children who have lost a parent, and there is no will, it will usually be treated as a ‘bare trust’ for tax purposes.

• Bare trusts

More than one beneficiary

If there are other beneficiaries who aren’t vulnerable, the assets and income that’s for the vulnerable beneficiary must be:

• identified and kept separate
• used only for the vulnerable beneficiary

Only that part of the trust gets special tax treatment.

Making a ‘vulnerable person election’

To claim special tax treatment, trustees must fill in form VPE1 (Vulnerable Person Election) and send it to HM Revenue & Customs (HMRC). They must sign it along with the vulnerable beneficiary - or someone who can legally sign for the beneficiary.

Trustees have to give details of all the assets and income in the qualifying trust, including anything used only partly for the vulnerable beneficiary. They’ll also have to show how the trust income is shared out. It can’t be a qualifying trust if the person who sets it up can get some benefit from it.

Making an election if there’s more than one vulnerable beneficiary

A separate form VPE1 must be completed for each beneficiary.

Deadline for making a vulnerable person election

The election takes effect from the date you provide on the form VPE1. You must make the election no later than 12 months after 31 January following the tax year when you want the election to start. So, if you want it to take effect from 1 July 2011, you must send form VPE1 to HMRC by 31 January 2014.

Any income or gains before the date the election takes effect are taxed under normal trust rules - even if the election takes effect part way through the same tax year.

If the vulnerable person dies or is no longer vulnerable

You must tell HMRC if the vulnerable person dies or is no longer vulnerable. The special tax treatment is no longer effective after this date.

• Contact HMRC Trusts & Estates

• Form VPE1 to claim special tax treatment Opens new window

Income Tax for trusts with vulnerable beneficiaries

Where a trust has a vulnerable beneficiary, the trustees are entitled to a deduction of tax against the amount they would otherwise pay. This is calculated in the following way:

• trustees work out what their trust Income Tax would be if there was no claim for special treatment - this will vary according to which type of trust it is
• they then work out what Income Tax the vulnerable person would have had to pay if the income that the trust produced had been paid directly to them as an individual - taking into account any other income, capital gains and allowances, but ignoring any discretionary income payments to the beneficiary
• trustees can then claim the difference between these two figures as a deduction from their own Income Tax liability
  

• Income Tax - the basics

• Types of trust and tax implications

• Detailed example of working out the special tax treatment Opens new window

Capital Gains Tax for trusts with vulnerable beneficiaries

Capital Gains Tax is a tax on the gain in the value of assets such as shares, buildings or land. A trust may have to pay Capital Gains Tax if assets are sold, given away or exchanged (disposed of) and they’ve gone up in value since being put into trust.

The trust will only have to pay the tax if the assets have increased in value above a certain allowance known as the 'annual exempt amount'. Trustees are responsible for paying any Capital Gains Tax due.

The Capital Gains Tax is paid by the trustees. They can claim a relief, which is calculated in a similar way to the Income Tax Relief:

• they work out what they would ordinarily pay if there was no relief
• they then work out what the beneficiary would have to pay if the gains arose directly to them as individuals
• they can claim the difference between these two amounts as a relief on what they have to pay in Capital Gains Tax at box 5.6E on form SA905 - the Capital Gains supplementary pages
  

This special Capital Gains Tax treatment does not apply in the tax year when the beneficiary dies.

• Trusts and Capital Gains Tax

• Form SA905, Capital Gains Tax supplementary pages and guidance notes Opens new window

Inheritance Tax for trusts with vulnerable beneficiaries

Trusts for vulnerable beneficiaries get special Inheritance Tax treatment if they’re ‘qualifying trusts’ for Inheritance Tax.

Qualifying trust for a disabled person

A qualifying trust for a disabled person is one where:

• at least half of the payments from the trust must go to the disabled person during their lifetime
• someone suffering from a condition that’s expected to make them disabled sets up a trust where all the capital is set aside for themselves

Qualifying trust for a ‘bereaved minor’

A qualifying trust is made on the death of a parent for their child, who must take all of the capital and income at (or before) becoming 18.

Special Inheritance Tax treatment

Assets transferred into a qualifying trust for a disabled person are treated as a ‘potentially exempt transfer’ - this means that there is no Inheritance Tax charge if the person who made the transfer survives seven years from the transfer date.

There is no Inheritance Tax on transfers made out of either type of qualifying trust to the vulnerable beneficiary. However when the beneficiary dies, any assets held in the trust on their behalf are treated as part of their estate and Inheritance Tax may be charged.

There are no ten-year Inheritance Tax charges on trusts with vulnerable beneficiaries.

• Trusts and Inheritance Tax

More useful links

• Vulnerable beneficiaries - detailed guidance Opens new window

Useful contacts

• HMRC Trusts & Estates