How to manage Wealth through Trust?
What is a Trust?
A Trust is used as an instrument to hold property for
dependents and family members (intended beneficiaries), and alongside reducing
the burden of tax. The law governing Trusts in India is codified and contained
in the Indian Trust Act, 1882.
A Trust is one of the ways through which an individual
can plan for his/her Estate. The
other ways of Estate planning are Wills, Insurance, Gift, Power of Attorney,
transfer of property and partition. It can be used for family tax planning
purpose also.
[Estate is the process through which one arranges
legal transfer of assets (in anticipation of death or incapacitation) with an
intention to preserve the maximum amount of wealth possible for the intended
beneficiaries].
Common examples of Trusts are Children specific Trusts
- where the Trust corpus is handed over to them upon their attaining a
specified age or upon their marriage. Another example is Retirement Trusts –
they are set up by employers to provide retirement benefits to employees in the
future (such as an EPF Trust).
What are the different types of Trust?
1. Private
Trusts
A private trust is created for the benefit of specific
individuals i.e., individuals who are defined and ascertained individuals or
who within a definite time can be definitely ascertained.
A private trust does not work in perpetuity and
essentially gets terminated at the expiry of purpose of the trust or happening
of an event or at any rate eighteen years after the death of the last
transferee living at the time of the creation of the trust.
A person can be settlor of a private trust if he has
attained majority (i.e., has completed 18 years of age or in case of a minor,
for whom a guardian is appointed by the court or of whose property the
superintendence has been assumed by the court of wards the age of majority is
21 years) and is of sound mind, and is not disqualified by any law.
But a trust can also be created by or on behalf of a
minor with the permission of a principal civil court of original jurisdiction.
Apart from an individual, a company, firm, society or association of persons is
also capable of creating a trust.
A family trust set up to benefit members of a family
is the most common purpose for a private trust. The purpose of the family trust
is for the settlor to progressively transfer his assets to the trust, so that
legally the settlor owns no assets himself, but through the trust,
beneficiaries get the benefit of these assets. A family trust can be set up
either while one is still alive (by a declaration of trust contained in a trust
deed) or post death, in terms of a will.
Private family trusts may be set up either inter vivos
i.e. during a person’s lifetime or under a will i.e. testamentary trust, either
orally or under a written instrument, except where the subject matter of the
trust is immovable property, the trust would need to be declared by a
registered written instrument.
Private trusts may also be used as a collective
investment pooling vehicles such as mutual funds and real estate investment
trusts.
2. Public
Trust:
A public trust is created for the benefit of an
uncertain and fluctuating body of persons who cannot be ascertained any point
of time, for instance; the public at large or a section of the public following
a particular religion, profession or faith. A public trust is normally
permanent or at least indefinite in duration.
As regards the public trusts, there is no Central Act
governing formation and administration of such trusts. But various states such
as Bihar, Maharashtra, Madhya Pradesh Orissa, etc., have enacted their own
legislations prescribing conditions and procedures for the administration of
public trusts. These Acts are more or less similar in nature though there may
be certain variations.
A public trust is generally a non-profit venture with
charitable purposes and in such cases it is also referred to as the charitable
trust. A trust created for religious purposes is termed a religious trust and
it can be either a private or a public trust. A religious endowment made via
trustees to a specified person is a private trust and the one to the general
public or a section thereof is a public trust. The creation of religious
charitable trusts is governed by the personal laws of the religion. The
administration of these religious trusts can either be left to the trustees as
per the dictates of the religious names or it can be regulated to a greater or
lesser degree by statute such as the Maharashtra Public trusts Act, 1950. In
case of Hindus, the personal law provisions regulating the religious trusts
have not been codified and are found dispersed in various religious books.
There are four essential requirements for creating a
valid religious or charitable trust under Hindu Law, which are as follows:
1. valid religious as charitable purpose of the trust
as per the norms of Hindu Law;
2. capability of the author of the trust to create
such a trust;
3. the purpose and property of the trust must be
indicated with sufficient precision; and
4. the trust must not violate any law of the country.
Who can form a Trust?
A Trust can be formed –
By any person competent to contract –
(i) above 18 years of age;
(ii) of sound mind;
(iii) not disqualified from entering into any contract
by any law; or
On behalf of a minor (only with the permission of a
principal civil court of original jurisdiction).
Requisites to a Trust –
(i) Author of the Trust - someone at whose instance
the trust comes into existence (also called as Settlor);
(ii) Purpose to form a Trust – to divest the ownership
of the Author/Settlor of the Trust in favour of the Beneficiary/Trustee;
(iii) Trustee - every person capable of holding
property can become a Trustee;
(iv) Beneficiary – to whom the Trust income/corpus is
intended for;
(v) Subject matter of Trust - any asset capable of
being transferred can be a subject matter of a trust.
All these requisites are required for a Trust to
legally come into existence.
A Trust can be either:
1. Discretionary
Trusts: A discretionary trust is a trust that has been set up for the
benefit of one or more beneficiaries, but the trustee is given full discretion
as to when and what funds are given to the beneficiaries. The beneficiaries of
the trust have no rights to the funds, nor are the funds regarded as part of
the beneficiaries’ estates.
Deep Analysis:
With most trusts, the beneficiaries are entitled to a
certain proportion of the trust income, depending on the terms of the trust. They
may receive a monthly allowance or receive the money when they reach a certain
age. Because of this, the beneficiaries are considered beneficial owners.
A discretionary trust is different in that the
beneficiary cannot claim or demand funds from the trust at any stage. The
allocation of funds is entirely at the discretion of the trustee.
This has the effect of protecting beneficiaries who
may not have the ability to use the funds wisely. It also provides protection
against creditors, who cannot attach the trusts funds’ assets.
Beneficiary funds are good for situations when the
beneficiaries are immature, disabled, mentally impaired, irresponsible,
spendthrift, gamblers, or are in debt or bankrupt.
The trustee of a discretionary trust has complete
control over the fund and is regarded as the legal owner. Even though the
trustee cannot benefit from the fund, it’s possible that the trustee won’t
adhere to the grantor’s wishes and, for this reason, a discretionary trust may
have “appointers” who have the power to remove the trustee and appoint a new
one. Another method of limiting the discretion of the trustee is to appoint a
guardian who has the power to veto distribution decisions.
2. Non-discretionary
Trusts: A trust in which the trustee has no ability to make investment
decisions with regard to the assets in the trust and/or has no control over
when and how the assets are distributed to the beneficiary. In a
non-discretionary trust, the trustee simply sees to it that the grantor's wishes
are carried out.
3. Revocable Trust: A trust that can be revoked (cancelled) by its settlor at any time
during this life.
4. Irrevocable Trust: A trust will not come to an end until the term / purpose of the trust
has been fulfilled.
What is the process of creating a Trust?
Following steps are followed for creating a Trust:
STEP-1: Prepare
a family Trust Deed – A Trust Deed includes name of the Author, Trustees,
Beneficiaries, purpose of the Trust, administration of the Trust, and other
important clauses.
STEP-2:
Transfer of Immovable Property to Trust - A registered (in writing) document is
necessary to set up a trust if immovable property is being transferred to it.
The trust deed should be made on stamp paper and registered with the Registrar
of Assurances (under the Registration Act). The written document should contain
complete description of the property so as to clearly identify the property;
the title of property should be clear (free from mortgage and litigation) in
order to be transferable to the Trust.
Transfer of Movable Property to Trust – For movable
property, no written document or registration is necessary. A movable property
can be transferred to a Trust by mere change of ownership of the property (by
physically handing over the possession of the property) to the Trustee, with a
direction that the property be held under Trust for the benefit of the
Beneficiaries. For example, handing over the fixed deposit certificate of a
bank to the Trust.
STEP-3: Once a
Trust is set up, the settlor (for example, the parent) can contribute more
funds to it as and when he/she wants to. Even the trustees (both parents) and
also friends and relatives can gift funds to the trust. You can contribute more
funds to it as and when you want to and there is no limit specified to it.
A written trust-deed is always desirable even if not
required statutorily as it is an evidence of existence of a Trust, specifies
the Trust-objectives, helps to control, regulate and manage the working and
operations of the Trust, and lays down the procedure for appointment, rights,
duties and removal of the Trustees.
Gift, Will or Trust–Which one to choose?
Gift, Will and Trust are unique instruments through
which you can pass on assets to your loved ones. A Gift is used when you want
to gift (assets) to your loved ones while you are alive; a Will is used to
transfer the ownership of assets to the Beneficiaries after you are no more; A
Trust is used when you would like to transfer ownership of assets to the
Beneficiaries at a specific date in the future.
A Will has its own pros & cons – the con being
that the execution of the Will is time consuming and can be contested in a
court. However, a Will can be changed (modified) any number of times during
your life, unlike a Trust Deed which cannot be revoked once made; that means it
would be difficult to re-claim assets that have already moved to the Trust in
case you need them back in the future.
Also, in a Trust, there is the possibility of the Trustees
turning unfaithful. Therefore, it is important to appoint Trustees who are
trustworthy. In case of Gifting, although it is much easier to just gift the
assets to your loved ones, any income arising from such gifts will be clubbed
with your income and taxed as per your income tax slab rate.
In India, although there is no inheritance tax, which
takes some appeal off from forming a Trust (as a Trust reduces your tax
liability but does not make you completely tax exempt), a person in the higher
income tax slab can create a Trust if he/she is looking to transfer assets to
their loved ones in distant time. This way, it helps one have control of their
assets, create wealth for the Beneficiaries and also aid in saving taxes.
Appointment of Trustee
A trustee has a fiduciary obligation under law to hold
the trust Property for the benefit of the Beneficiaries to the trust. In doing
so, the trustee is given various powers (as described below) under the trust
deed to manage the affairs and Trust Property of the trust. Accordingly, it
becomes important to choose the most suitable trustee for the commercial
requirements of the family and the assets intended to be contributed to the trust.
For example, a trustee may be an individual, either a trusted family advisor or
a member of the family itself. The trustee may even be the Settlor or one of
the Beneficiaries of the trust so long as the individual acts only in his
capacity as a trustee and fulfills his fiduciary obligations when managing the
affairs of the trust. Alternatively, an institutional trustee may be favoured,
especially in instances where neutral decision-making is a primary concern. The
family may also consider setting up a Private Trust Company (“PTC”) with family
members appointed as directors of the PTC to make decisions with respect to the
trust. As a PTC is a separate legal entity under the Companies Act, 2013, any
liability arising from the decisions of the board of directors of the PTC
should be limited to the PTC and the directors should not be personally liable
(unlike individual trustees) to the extent provided under law.
Important considerations to keep in mind when deciding
whether to appoint an individual, institution, or PTC to act as trustee
include:
a. the level of control the family would like to
maintain in day to day operations;
b. neutrality of the trustee;
c. objective and term of the trust;
d. expertise with respect to the discharge of various
fiduciary duties;
e. knowledge / expertise with respect to various
administrative functions like record keeping, legal disclosures, regulatory
compliances, etc;
f. annual costs.
What are the Powers of Trustee?
The powers of the trustee are captured in the trust
deed. While the trustee’s powers can vary depending on the needs of the
structure, generally a trustee has wide ranging powers that not only allow him
to manage the daily operations of the trust and make distributions to
Beneficiaries, but also empower him to amend the trust deed itself, add or
remove Beneficiaries, make contributions to charities, or modify the term of
the trust. In order to balance the powers of the trustee, the trust deed may
provide for the appointment of a Protector. As discussed previously, the role
of the Protector is purely advisory in nature; however, by requiring that the
trustee consult the Protector before making key decisions may help to ensure
that the family’s best interests and the Settlor’s wishes are being followed.
Moreover, the Settlor may also provide the trustee with a Letter of Wishes
(“LOW”), which outlines the considerations that the Settlor would like the
trustee to keep in mind when making certain key decisions.
Such key decisions may include determining the beneficial
interest of each Beneficiary, making distributions, adding or removing
Beneficiaries, etc. The LOW is a private document between the Settlor and the
trustee, and while not legally binding, institutional trustees generally follow
the guidelines set forth by the Settlor under the same.
While a single trustee may be appointed for the sake
of efficiency and / or convenience, the trust structure may also provide for
multiple trustees acting as co-trustees. The Trusts Act provides that if a
trustee:
(i) deals with the trust-property as carefully as a
man of ordinary prudence would deal with such property if it were his own;9 and
(ii) takes all steps as would be reasonably requisite to preserve Trust
Property, then such trustee should not generally liable for a breach of trust
committed by his co-trustee provided that the trustee shall be liable if:
a. he has delivered trust-property to his co-trustee
without seeing to its proper application;
b. he allows his co-trustee to receive trustproperty
and fails to make due enquiry as to the co-trustee’s dealings therewith, or
allows him to retain it longer than the circumstances of the case reasonably
require;
c. he becomes aware of a breach of trust committed or
intended by his co-trustee, and either actively conceals it or does not within
a reasonable time take proper steps to protect the beneficiary’s interest.
In the event that multiple trustees are appointed to
govern the trust, it becomes important for the trust deed to provide a
mechanism by which the trustees will make decisions. For example, in case of
two trustees, decisions may be made only with the unanimous consent of both
trustees, and in case of deadlock either status quo is to remain or a third
independent individual (or Settlor) is to be chosen by the trustees to break
the tie. In the case of three trustees decisions may be made by majority vote.
Alternatively, the trust deed may provide that certain trustees are responsible
for only specific matters. In certain instances (especially in the case of
revocable trusts), the Settlor may be empowered to direct the trustees or have
veto rights. Further, the Trusts Act provides that a trustee may be discharged
of his duties only by:
a. the extinction of the trust
b. the completion of his duties under the trust
c. appointment under the Trusts Act of a new trustee
in his place
d. consent of himself and all the beneficiaries being
competent to contract
e. the court to which a petition for his discharge is
presented; or
f. whatever means provided under the trust deed.
Dispute Resolution Mechanism
Last year, the Supreme Court (“SC”) of India, in Vimal
Shah & Ors. vs Jayesh Shah & Ors.13 , held that as beneficiaries are
not signatories to a trust deed containing an arbitration clause, any disputes
arising between beneficiaries or trustees of a trust cannot be referred to
arbitration as such arbitration clause is not an “arbitration agreement” between the trustees
interse, between the beneficiaries inter se or between the trustees and the
beneficiaries for the purposes of the Arbitration & Conciliation Act, 1996 (“Arbitration
Act”).
Furthermore, the SC clarified that even if the beneficiaries are
considered to have accepted the trust deed vis-à-vis the settlor by accepting the benefits deed
to provide a mechanism by which the trustees will make decisions. For example,
in case of two trustees, decisions may be made only with the unanimous consent
of both trustees, and in case of deadlock either status quo is to remain or a
third independent individual (or Settlor) is to be chosen by the trustees to
break the tie. In the case of three trustees decisions may be made by majority
vote. Alternatively, the trust deed may provide that certain trustees are responsible
for only specific matters. In certain instances (especially in the case of
revocable trusts), the Settlor may be empowered to direct the trustees or have
veto rights. Further, the Trusts Act provides that a trustee may be discharged
of his duties only by:
a. the extinction of the trust
b. the completion of his duties under the trust
c. appointment under the Trusts Act of a new trustee
in his place
d. consent of himself and all the beneficiaries being
competent to contract
e. the court to which a petition for his discharge is
presented; or
f. whatever means provided under the trust deed.
Trusts with cross-border elements
With the number of HNW families having members
residing in various countries, the likelihood that a trust structure will have
cross-border elements is increasing. Keeping in mind that the Reserve Bank of
India has strict rules with respect to foreign exchange and the cross-border
transfer of funds / immovable property, it becomes important to consider the
residency status of the Settlor, Trustee and Beneficiaries of a trust.
For example, an Indian resident Settlor may set up a
trust outside of India (“Offshore Trust”). In fact, the Foreign Exchange
Management Act, 1999 (“FEMA”) of India has granted general permission to a
person resident in India to hold, own, transfer or invest in foreign currency,
foreign security or any immovable property situated outside India if such
‘Foreign Currency Assets’ have been acquired, held or owned by such person when
he was resident outside India or inherited from a person who was resident
outside India. Such person may set up a trust in such jurisdiction or any other
jurisdiction to which he could contribute the Foreign Currency Assets.
However,
remitting Indian funds to such Offshore Trust should be subject to India’s
Liberalised Remittance Scheme (“LRS”), under which resident individuals
are allowed to transfer up to USD 250,000 per person per financial year for
permitted current and capital account transactions without prior RBI approval.
These transactions include acquisition of immovable property shares or any
other assets outside of India Funds transferred through LRS may even be used to
set up a foreign company.
Further, taxation of such Offshore Trust should be
subject to the tax laws of the foreign jurisdiction. From an Indian tax
perspective, income of the Offshore Trust should be taxable in India only if
all its beneficiaries are Indian residents, or the assets of the trust are
located in India.
An Indian resident Settlor may also settle a trust in
India for the benefit of both resident and NRI beneficiaries. Distributions to
such beneficiaries should not require prior RBI approval; however Indian
exchange control laws do not permit direct distributions to be made to NRI’s
offshore account. In such event, an NRI may open an NRO account with an
authorized dealer bank, and distributions by the trust should be permitted to
such account.
Further, while the Trusts Act does not bar a
nonresident from acting as a trustee to an Indian Trust, it does require that
provide that where a trustee is absent from India for a continuous period of
six months or leaves India with the intention of residing abroad, then a new
trustee may be appointed in his place.
That being said, the Trusts Act also required that a
trustee be able to hold property. Considering that Indian foreign exchange laws
do not permit non-residents to directly hold immovable property, the trustee of
a trust having immovable property would not be legally capable of holding such
property on behalf of the trust and would therefore not be competent to act as
trustee. Moreover, in the event that a trustee is non-resident, the trust
should not be engaged in activities prohibited for non-residents under India’s
foreign exchange regulations.
Is Trust is an effective vehicle for Succession & Estate Planning?
Income tax in India is governed by the Income Tax Act,
1961 (‘ITA’), which lays down provisions with respect to chargeability to tax,
determination of residence, computation of income, transfer pricing, etc.
Residents are ordinarily subjected to tax on their worldwide income, whereas
non-residents are taxed only on their Indian source income, i.e. income that
accrues or arises to them in India.
The growth in personal wealth fuelled by the overall
growth in business in economy, especially mushrooming of affluent businesses
governed by families, has created the need for structures that provide
effective and hassle-free wealth management, asset protection and tax
efficiency. In this respect, trusts are increasingly being recognised as a
vehicle for effective succession and estate planning.
The law relating to private trusts is governed by the
Indian Trusts Act ("Trust law"). A trust is basically a vehicle under
which property is transferred from the original owner and held by the person to
whom it is transferred for the benefit of another. The "author of the
trust", the "trustee", the "beneficiary", the
"trust-property", the "beneficial interest" and the
"instrument of trust" are the integral elements of a trust. A trust
can be created for any lawful purpose.
A trust, in relation to an immovable property, must be
in writing and registered. A trust is created when the author of the trust
indicates an intention to create a trust along with its purpose, beneficiary
and the trust-property, and transfers the property to the trustee. A trust is
different from a gift.
A trust structure comes with certain inherent
advantages. A trust provides the flexibility to be set up in more than one form
or in hybrid forms as per the requirement. A trust can be either private or
public. As opposed to a public trust, a
private trust is a trust generally for the convenience and support of
individuals of families. Trust can be structured as revocable or irrevocable.
A revocable trust can enable the settlor to exercise
control over the property but can be prone to clubbing provisions under the tax
laws. An irrevocable trust can provide safeguard against future creditor claims
on the assets in case of bankruptcy, since the settlor ceases to have the title
to the trust property, yet at the same time enable indirect control over the
property through terms of the trust deed.
This is one the prime benefits of a trust structure
which allows ring fencinof wealth, the downside, however, being the settlor
losing ownership.
Further, while settling equity stake of a loss making
company in a trust to ensure asset protection, one may need to be careful of
tax provisions due to which losses could lapse in case of a substantial change
in stake. A trust can be further set up either as discretionary, where trustees
can have the discretion as regards distribution of benefits to one or more
beneficiaries and extent thereof which may be especially useful if the settlor
is the trustee, or as determinate, where entitlement of Trusts can be set up
inter vivos or by will. Both have their own characteristic advantages and
purposes to serve. Multiple trusts can be set up to suit multiple purposes or
even hybrid trusts combining various forms, thus, obviating the need to have
multiple trusts.
Except for necessary governing provisions, the trust
law provides enough flexibility in creating and managing a trust. Any person
competent to contract can create a trust and any person capable of holding
property can be a beneficiary including a minor. Any person capable of holding
property can be a trustee. A trust can be an efficient tool for succession
planning without the need for probate process through Court, thereby protecting
privacy by preventing public disclosure.
Being governed largely by the terms of the trust deed,
a trust structure can afford the necessary flexibility to capture commercial or
family arrangements and at the same time enable imposition of necessary
conditions by the settlor for the entitlement to benefits. Investment of trust
moneys, apart from securities prescribed under trust law, can also be made in
securities expressly authorised by trust deed.
The settlor, even though not the legal owner, can
thereby specify an investment mandate in respect of trust property and exercise
implicit control through the various covenants. The settlor can himself be the
trustee, thereby exercising a greater control. A trust, therefore, can enable
the settlor to exercise various degrees of control over the property even when
divested of the legal title.
Further, it is feasible to transfer beneficial
interests in the property from generation to generation as also realign family
holdings inter-se, as per requirements. A
trust enables segregation of ownership and control. Management of properties
through a trust creates a legal framework within which assets can be protected
and maintained effectively while safeguarding the interests of family members.
Challenges arising from cross-border movement of
family members and need to exploit opportunities arising in the context of
offshore properties can be met by creating offshore trust structures in
efficient jurisdictions, subject to the foreign exchange restrictions in place
including those relating to remittance limits and capital account transactions.
Besides, foreign contributions may require compliance
with the law governing such contributions. As would be evident from the
benefits which accrue, a trust structure can provide effective asset protection
and enable distribution of income and wealth as envisaged by the settlor.
It can be especially beneficial to large businesses
controlled and managed by same families from generation to generation or high
net worth individuals who wish to effectively and securely manage substantial
amounts of wealth even while ensuring asset protection.
While income of a determinate trust is taxable at rates applicable to
beneficiaries, income of a discretionary trust is generally taxable at the
maximum marginal rate ("MMR"). Cases of income consisting of profits and gains of business
are generally taxable at MMR in both categories of trusts.
By careful planning, however, trust structure can
lower the overall tax incidence attaching to the income from properties by
availing the benefit of rates applicable to an association of persons or
individuals. This can happen, for instance, by creating a discretionary trust
declared by will where such trust is the only trust so declared by the settlor
or by creating a discretionary trust where none of the beneficiaries has income
exceeding the threshold exemption limit and none is a beneficiary under any
other trust.
Similar benefit can be availed in case of a
determinate trust where the beneficiaries are individuals. Income of the family
can, therefore, be split through family trust arrangements to achieve overall
lower tax incidence.
A trust can constitute a tax efficient structure,
especially from a long term perspective. The concept of dividend distribution
tax and minimum alternate tax applicable to a company is not applicable to a
trust. Thus, income earned by a trust or that distributed to beneficiaries is
not liable to such additional taxes. Transfer of property by the settlor to the
trust is not eligible to capital gains where the trust is irrevocable.
\
However, this exemption is not available in case of a
revocable transfer in which case clubbing of income may also become applicable
and, in case of subsequent transfer of asset by the trust, the cost base may
relate to the original cost base of the settlor, thereby resulting in a larger
capital gains liability. Apart from this, employing trust structure at an early
stage could result in tax savings on future earnings on property and also a
lower capital gains tax, if applicable, on transfer of property to the trust,
considering possible enhancement in property value.
Further, an early settlement can also benefit in the
sense that in case of a revocable trust, any further acquisition of assets can
be made through trust itself thereby avoiding any possible capital gains tax
upon subsequent transfer by the settlor to the trust. Option to settle business
properties in a trust can be explored. In a multi-tier holding structure, the
option of settling the ultimate holding into a private trust can be analysed so
as to avail multifarious benefits offered by a trust structure.
In the overall analysis, as a vehicle for succession
and estate planning, a trust has inherent advantages vis-à-vis other legal
forms and the pros would, in most case, outweigh the cons.
Since a tax structure can take various forms, mostly
complex, it is imperative that it is effectively structured with a long-term
perspective in mind through appropriate professional advice. With proper
planning and right mix of structure, timing and jurisdiction, one can benefit
the most out of it.
Taxation provisions for Private Trust:
1. Irrevocable Determinate (Specific) trust
In such a trust, the beneficiaries are identifiable
and their shares are determinate, a trustee can be assessed as a representative
assessee and tax is levied and recovered from him in a like manner and to the
same extent as it would be leviable upon and recoverable from the person
represented by him (i.e. the beneficiary). The tax authorities can
alternatively raise an assessment on the beneficiaries directly, but in no case
can tax be collected twice.
While the income tax officer is free to levy
tax either on the beneficiary or on a trustee in his capacity as representative
assessee, the taxation in the hands of a trustee must be in the same manner and
to the same extent that it would have been levied on the beneficiary, i.e., qua
the beneficiaries. Thus, in a case where a trustee is assessed as a
representative assessee he would generally be able to avail all the benefits /
deductions, etc. available to the beneficiary, with respect to that
beneficiary’s share of income. There is no further tax in the hands of the
beneficiary on the distribution of income from a trust.
In relation to assets settled / gifted into an
irrevocable trust (both determinate and discretionary), such contribution
should not be taxable in the hands of the transferor. This is because such
settlement / gift is specifically excluded from the ambit of “transfer” for the
purposes of levy of capital gains tax. However, there has been conflicting
views in relation to taxation in the hands of the trustee, i.e., the
transferee, especially, where one / more beneficiaries of the trust are not
“relatives” (as defined) of the transferor.
Up to FY 2016-17, receipt of fund / any property by
any “individual” without consideration or for a value less than the fair market
value of the property was taxable in the hands of the transferee individual,
except where the transferors were “relatives” 3 of the transferee. In the
context of certain facts, some rulings have held that income of trust should be
taxed as the income of an “individual”. However, it may be possible that trust
income is not taxed as income of an “individual” depending on the facts and
circumstances. Further, considering that ‘trust’ is “an obligation annexed to
ownership of property”, it is questionable as to whether settlement of property
into a trust can be treated as transfer of property without consideration.
Based on recent amendments, from FY 2017-18, the
provisions have been expanded such that they are applicable to all transferees
and not only individuals. This expansion has been coupled with a specific
exclusion for settlement into trusts set up solely for the benefit of
“relatives” of the transferor. Therefore, it appears that settlements in other
circumstances may be taxable in the hands of the transferee trustee. Having said
that, the primary issue it is still unsettled, i.e., as to whether settlement
of property into a trust can be treated as transfer of property without
consideration.
2. Irrevocable Discretionary trust
A trust is regarded as a discretionary trust when a trustee
has the power to distribute the income of a trust at its discretion amongst the
set of beneficiaries. In case of an onshore discretionary trust, with both
resident and non-resident beneficiaries, a trustee will be regarded as the
representative assessee of the beneficiaries and subject to tax at the maximum marginal
rate i.e. 30%.
In case of an offshore discretionary trust with both
resident and non-resident beneficiaries (including offshore charitable
organisations), a trustee should not be subject to Indian taxes or reporting
obligations. However, if all the beneficiaries of such discretionary trust are
Indian residents, then a trustee may be regarded as the representative assessee
of the beneficiaries and can be subject to Indian taxes (on behalf of the
beneficiaries) at the maximum marginal rate i.e. 30%.
3. Revocable trust
Under the ITA, a transfer shall be deemed to be
revocable if it contains any provision for the re-transfer directly or
indirectly of the whole or any part of the income or assets to the transferor
or it in any way gives the transferor a right to re-assume power directly or
indirectly over the whole or any part of the income or assets. Thus, where a
settlement is made in a manner that a settlor is entitled to recover the
contributions over a specified period, and is entitled to the income from the
contributions, the trust is disregarded for the purposes of tax, and the income
thereof taxed as though it had directly arisen to the settlor. Alternatively,
even in a situation where a settlor has the power to re-assume power over the
assets of a trust, the trust is disregarded and the income is taxed in the
hands of the settlor. In the case of a revocable trust, income shall be
chargeable to tax only in the hands of the settlor. If there are joint settlors
to a revocable trust, the income of the trust will be taxed in the hands of
each settlor to the extent of assets settled by them in the trust. This
arrangement is not specifically required to be recorded in a trust deed.
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