Succession preparing is a vital aspect in everyone’s life. The happenings in the final one particular year have additional enforced upon us the criticality of the similar. There are numerous strategies and indicates by way of which intergenerational transfer of wealth can be ensured. For movable properties, such as shares of group providers, bank balances, fixed deposit and other monetary assets, the subsequent generation may well just be appointed as nominees to make certain that these assets get transmitted to them on demise of the existing owners. Further, other movable assets, such as jewellery, artifacts, and other valuables are commonly gifted through the lifetime of the person. However, rather than offering for a piecemeal wealth transition strategy, folks frequently do a Will or, of late, have began settling Family Trusts to make certain seamless transfer of financial interest to the subsequent generation.
A Family Trust may well be regarded as to be a much more productive mechanism for guaranteeing unfettered and seamless succession preparing. This is for the reason that the Trust is implemented through the lifetime of the patriarch, and consequently, he can make certain that the similar is functioning in the manner he would like it to operate and, if essential, make amendments to make it much more productive and effective. Further, in case of a Family Trust, the privacy of the document is maintained as the similar is not essential to be executed by way of a court course of action, as it may well be in case of a Will.
Seeing the expanding trend about creation of Family Trusts for wealth succession, it is crucial that much more clarity is brought about specific provisions of the tax laws in India in relation to Family Trusts.
Creation of a Family Trust structure
At the time of formulation of the Family Trust structure, numerous promoter groups opt for a dual Trust structure, consisting of Master Trust and Sub-Trusts, in order to supply a mechanism for productive succession preparing for not just their generation, but for the future generations as properly.
Section 56(two)(x) of the Act needs receipt of house by any assessee at the fair worth of such house. Therefore, migration of loved ones wealth (such as corporate shareholdings, loved ones assets such as jewellery, and so forth.) to a Trust structure would have essential transfer of the similar at fair worth, in order to comply with Section 56(two)(x). However, an exemption has been offered in the mentioned Section, wherein transfer of house from an person to a Trust, which has been made solely for the advantage of relatives of the person, is exempt from applicability of Section 56(two)(x). Further, the term ‘relative’ has been defined to involve only folks.
Therefore, on the basis of a literal reading the provision, exemption would be accessible only in case of a single Trust structure, i.e. wherein person loved ones members are direct beneficiaries in the Trust. However, in case a dual Trust model is made, i.e. a Sub-Trust is a beneficiary of the Master Trust, availability of the exemption is ambiguous.
Accordingly, a clarity must be offered in Section 56(two)(x) that if a Sub-Trust is a beneficiary of the Master Trust and the beneficiaries of the Sub-Trust are folks who are relatives of the donor of the Master Trust, then the exemption from 56(two)(x) must be accessible. Since the ultimate beneficiaries of the Master Trust would sooner or later be person relatives of the donor, the similar would be in line with the spirit of the above-talked about exemption. Such clarity would facilitate creation of much more effective Trust structures for the promoter groups.
Taxability of capital gains of a Discretionary Family Trust
A Discretionary Trust is a Trust wherein the effective interest ration of the beneficiaries is not defined at the time of creation of the Trust. The Trustees have the discretion to make a decision the timing and quantum of distribution of assets and earnings of the Trust amongst the beneficiaries. As per Section 164 of the Act, all earnings of a discretionary Trust is taxable at Maximum Marginal Rate, i.e. the tax price (such as surcharge) applicable in relation to the highest slab of earnings in the case of an person. The tax price prescribed for the highest slab of earnings for folks is 30%, plus applicable surcharge and education cess.
The price of tax leviable on capital gains has been specified below Section 112, 112A and 111A of the Act, and ranges from ten%-20%. Therefore, in case of a discretionary Family Trust, capital gains must also be chargeable at the price of ten-20% in order to make certain that it is at par at the price applicable to the underlying person beneficiaries.
Any other interpretation would be illogical, for the reason that in that case, if capital acquire accrues to the folks straight, then they would be taxable at a reduced price as compared to the productive price applicable to them by way of the Family Trust.
Availability of deductions to Family Trusts
A Family Trust with folks as beneficiaries must be taxed as an person. This principle has also been upheld by numerous courts in the previous, wherein taxability of a Trust has been analyzed. There are specific deductions below the Act which are accessible to folks and HUFs, e.g. deduction below Section 54F, numerous deductions prescribed below Chapter Through (Section 80C, 80CCA, and so forth.). Benefits of such deductions must also be extended to Private Family Trusts to make certain that the taxability of the Family Trust is fully at par with that of its person beneficiaries.
Taxability of dividend received by a Family Trust
Pursuant to abolition of Dividend Distribution Tax (‘DDT’) in Finance Act, 2020, dividend is taxed in the hands of the shareholders at the earnings tax price applicable to them. In case of Family Trusts or High Net Worth Individuals (‘HNIs’), the applicable price of tax on dividend earnings may well be as higher as 35.88% (such as maximum applicable surcharge of 15% and cess of four%).
Prior to the aforementioned amendment, dividend earnings was taxable in the hands of the recipient @ ten% (below Section 115BBDA). Therefore, amendment has enhanced the tax liability of the recipient on receipt of dividend earnings.
Dividend is declared by a enterprise out of its post-tax income. Therefore, levy of additional tax on dividend received by the shareholders leads to double taxation of the similar earnings.
Abolition of tax on dividend earnings would bring corporate structures in line with profit distribution by partnership firms or LLPs, wherein profit share received by the partners are not taxable.
With the enhanced impetus for creation of Private Family Trusts for holding corporate and private assets, the above talked about clarifications from an Income Tax viewpoint are crucial and would be a welcome move by the legislature.
One of the key added benefits of a Family Trust is that it is a pretty transparent mechanism of inheritance preparing and consequently, aids steer clear of loved ones disputes, which in turn make certain enterprise continuity and brand protection. It would not be incorrect to say that Family Trust is the new age ownership car for loved ones wealth and for housing the loved ones workplace. Therefore, it is crucial to have absolute clarity about the tax provisions applicable to a Family Trust to make certain enterprise and financial prosperity in the nation.
(By Suvira Agarwal, Associate Partner, Grant Thornton Bharat, with inputs from CA Aashna Malhotra)