Mukesh Patel.in
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international tax expert / columnist / author / speaker

TAX PLANNING VIA WILL

Plan tax-friendly distribution of properties to reap valuable tax savings for your family!

                     Through execution of a Will, a person can ensure that useful tax planning benefits are availed of by his legal heirs after his death. It is common to see a testator wishing to distribute his properties amongst close members of his family.

                    When a father executes a Will, he may want to distribute his properties amongst his children. At such a time, the father should also keep in mind their taxable income and wealth. If the children have taxable income or wealth attracting tax at a high bracket, distribution of assets to them would further increase their income-tax and wealth-tax liabilities.

                    In such a case, if the father distributes such properties under the Will to his daughter in laws, sons’ HUFs or grandchildren, whose taxable income and wealth are either below taxable or in a comparatively low tax bracket, this would be extremely useful from the point of view of tax planning.

CREATING DISCRETIONARY TRUST UNDER WILL

                     What can be done, in case all members of the family are in the top tax bracket of 30.9%? In such circumstances, the testator can avail the benefits of useful tax planning by creation of a discretionary trust under his Will. Under the provisions of Section 164 of the Income-tax Act, a private discretionary trust attracts Income-tax at the maximum marginal rate of 30.9%. However, in this context, there is an important exception in regard to ‘one discretionary trust created under a Will,’ in respect of which the income-tax would be applicable at the normal rates and such an entity would be taxed as a separate and distinct assessable unit.

                     A trust in which either beneficiaries are not determined, or if determined their share in the income or assets of the trust is not determined, is known as a ‘discretionary trust.’ In case of such a trust, the trustees are given full rights to distribute the income and assets amongst the beneficiaries at their discretion.

                    While executing his Will, a person can plan to form one such discretionary trust under the Will and make relevant provisions in regard to the same. The existence of such a trust comes into effect after the death of the testator and the assets allotted to the trust constitute the trust fund. Since the trustees of such trust have wide powers to distribute income and assets to the beneficiaries, it is desirable that proper persons are appointed as trustees. It also needs to be noted that only one trust should be created under the Will, to avail of the benefit of exception of taxability at normal rates. Hence such trust should be the only trust created under the Will of the testator.

TAX SAVING THROUGH DISCRETIONARY TRUST

                   Through useful and imaginative planning, a discretionary trust under Will can prove to be extremely useful in saving of income-tax and wealth-tax. Such a discretionary trust under Will can also effectively help in overcoming the ‘clubbing provisions’ under Section 64 of theIncome-tax Act. The following illustration will give an idea of the tax saving benefits that can be derived:

Illustration: Chatur Shah creates a discretionary trust under his Will with his family members as beneficiaries under the Trust. Shah leaves behind assets of Rs.80,00,000 which generate annual income of Rs.9,60,000. All the family members of Shah are income-tax payers in the maximum bracket of 30.9%. In this case, if Shah’s assets had been received individually by any of the family members, the total income-tax payable on the income of Rs.10,80,000 would have been Rs.2,96,640.

Infact, if the discretionary trust invests Rs.1,20,000 in specified investments, it can also avail of the benefit of deduction under Section 80C and its taxable income would work out to Rs.8,40,000 (9,60,000 – 1,20,000). As held by the Gujarat High Court in the case of ‘CIT vs. Deepak Family Trust’ – 211 ITR 575 (Guj.), the status of a Discretionary Trust is ‘individual’ for purposes of the Income-tax Act and hence it is entitled to deductions from gross total income, just as in the case of an Individual or HUF.

The discretionary trust under Shah’s Will being considered as a separate entity for tax purpose, the appropriate tax on the taxable income of Rs.9,60,000 would work out only to Rs.1,07,120. Thus, the effective tax saving for the family of Shah in this case would work out to Rs.1,89,520 (2,96,640 – 1,07,120).

 

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