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How to unravel the legal complexities of US wealth inheritance

The different approaches to tax in the US and UK requires careful analysis and planning when dealing with an inheritance.

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Published 9 May 2023

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George Bernard Shaw once famously said that the United States and the United Kingdom are “two countries divided by a common language.” In our increasingly interconnected world, it is easy to assume that the laws of two English-speaking jurisdictions refer to the same thing when they use the same word. However, in the realm of tax and estate planning, this is not always the case.

For example, US revocable living trusts are commonly used in the US to avoid the time-consuming and expensive probate process, but in the UK, the position is more complex. Often the UK taxes such trusts very differently, which can result in unfavorable tax consequences for UK recipients out of such structures. HM Revenue & Customs may impose UK capital gains tax on distributions from living trusts, which can be up to 32% at current rates, depending on the specific provisions of the trust and the grantor’s mental capacity.

There are several solutions to mitigate tax risks and improve the UK tax position, such as:

– The grantor may be happy to revoke the living trust in favour of direct ownership of their assets. Instead, they would leave their wealth directly to their family under a will. However, this usually means accepting that the estate will pass through the US probate process. Even if the cost and complexity of that process would be outweighed by the UK tax consequences in the alternative, the perception is often that this plan is simply unviable to many Americans.

– While the grantor is alive, they often retain the ability to amend the trust provisions. Amending the least favourable provisions is frequently a balanced way to mitigate the risk of unfavourable UK tax treatment without affecting the US planning.

– If the grantor has just died, consider winding up the trust in favour of the US and UK heirs at the same time, so as to minimise any potential UK capital gains tax.

– If a UK beneficiary is about to return to the US, consider deferring the distribution until they have left the UK. However, watch for potential UK tax if the individual returns to the UK too quickly. The same guidance can work in reverse for a US beneficiary about to arrive in the UK.

A US parent leaving a trust for the benefit of the UK family can still be highly tax-efficient, particularly if the parent can use their generous US federal estate tax exemption. However, trustee residency also has a significant impact on when US or UK tax falls due and proper care must be taken over the trustees’ tax residency status.

For more information, please visit our UK/US tax & estate planning page.

This article was first published by the FT Adviser on 9 May 2023.

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Shorter Reads

How to unravel the legal complexities of US wealth inheritance

The different approaches to tax in the US and UK requires careful analysis and planning when dealing with an inheritance.

Published 9 May 2023

Associated sectors / services

  • International
  • UK/USA Tax & estate planning

Authors

George Bernard Shaw once famously said that the United States and the United Kingdom are “two countries divided by a common language.” In our increasingly interconnected world, it is easy to assume that the laws of two English-speaking jurisdictions refer to the same thing when they use the same word. However, in the realm of tax and estate planning, this is not always the case.

For example, US revocable living trusts are commonly used in the US to avoid the time-consuming and expensive probate process, but in the UK, the position is more complex. Often the UK taxes such trusts very differently, which can result in unfavorable tax consequences for UK recipients out of such structures. HM Revenue & Customs may impose UK capital gains tax on distributions from living trusts, which can be up to 32% at current rates, depending on the specific provisions of the trust and the grantor’s mental capacity.

There are several solutions to mitigate tax risks and improve the UK tax position, such as:

– The grantor may be happy to revoke the living trust in favour of direct ownership of their assets. Instead, they would leave their wealth directly to their family under a will. However, this usually means accepting that the estate will pass through the US probate process. Even if the cost and complexity of that process would be outweighed by the UK tax consequences in the alternative, the perception is often that this plan is simply unviable to many Americans.

– While the grantor is alive, they often retain the ability to amend the trust provisions. Amending the least favourable provisions is frequently a balanced way to mitigate the risk of unfavourable UK tax treatment without affecting the US planning.

– If the grantor has just died, consider winding up the trust in favour of the US and UK heirs at the same time, so as to minimise any potential UK capital gains tax.

– If a UK beneficiary is about to return to the US, consider deferring the distribution until they have left the UK. However, watch for potential UK tax if the individual returns to the UK too quickly. The same guidance can work in reverse for a US beneficiary about to arrive in the UK.

A US parent leaving a trust for the benefit of the UK family can still be highly tax-efficient, particularly if the parent can use their generous US federal estate tax exemption. However, trustee residency also has a significant impact on when US or UK tax falls due and proper care must be taken over the trustees’ tax residency status.

For more information, please visit our UK/US tax & estate planning page.

This article was first published by the FT Adviser on 9 May 2023.

Associated sectors / services

  • International
  • UK/USA Tax & estate planning

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