Private trusts: Concept, taxability and planning

T. Banusekar

A TRUST constitutes a separate taxable entity.

The word trust is defined in section three of the Indian Trust Act, 1882, as ``an obligation annexed to the ownership of property, and arising out of a confidence reposed in and accepted by the owner, or declared and accepted by him, for the benefit of another, or of another and the owner''.

The essential elements for creation of a trust are:

The author of the trust indicates with reasonable certainty, the intention to create a trust.

He indicates the purpose of the trust.

The beneficiary is indicated.

He indicates the trust property and transfers the trust property to the trustee (except, if the trust is declared by will except when he is the trustee himself.)

A trust in relation to immovable property, is valid if it is declared otherwise, than by way of will only if the instrument is in writing. This instrument must be signed by the author and trustee and should be registered. A trust in relation to immovable property need not however be registered if it is by way of will.

A trust in relation to movable property is valid if it is declared otherwise, than by way of will if the instrument is in writing. The author and the trustee should sign such an instrument. It can also be created by a will or if the ownership in the property is transferred to the trustee.

The two kinds of private trust:

Oral trusts.

Written trusts.

A written trust may be further divided into:

Specific trusts.

Discretionary trusts.

Oral trust

An oral trust is a trust created without a written instrument. Such a trust is always chargeable to tax, at the maximum marginal rate (MMR).

MMR is the rate of income tax (including surcharge on income tax if any) applicable in relation to the highest slab of income, in case of an individual (association of persons or as the case may be body of individuals), as specified in the Finance Act of the relevant year. For the assessment year 2001-2002, the MMR shall be 30 per cent, as increased by a surcharge of 10 per cent, that is, 33 per cent, if the total income does not exceed Rs. 150,000. If the total income exceeds Rs. 150,000, the MMR shall be 30 per cent as increased by a surcharge of 15 per cent, that is, 34.5 per cent.

An oral trust will be treated as a written trust, if the following conditions are met:

Where the trust has been declared before June 1, 1981, within three months from that day the statement in writing, signed by the trustees deciding the trust's purposes, the beneficiaries and the trust properties are forwarded to the assessing officer.

In any other case, within three months from the date of declaration of the trust statement in writing, signed by the trustees deciding the trust's purposes, the beneficiaries and the trust properties are forwarded to the assessing officer.

Written trust

Where the author, by an instrument in writing creates a trust, it is called a written trust. An oral trust, may in certain circumstances, be treated as a written trust. A written trust may either be specific or discretionary.

Specific trust

A specific trust is one where the beneficiaries are specified. Further their shares in the income and corpus of the trust must also be specific. The trustee or trustees of such a trust will not have, at any time, a discretion to deviate from the trust's provisions. (See the table for the manner of taxation of specific trust).

A trustee, as regards the income (in respect of which he is a representative assessee is subject to the same duties, responsibilities and liabilities, if the income were the income received by or accruing to or in favour of him beneficially), is liable to assessment in his own name, in respect of that income. Any such assessment is deemed to be made upon him in his representative capacity only. The tax is levied upon 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.

The liability of a representative assessee will not prevent either the direct assessment of the person on whose behalf and for whose benefit, income is receivable. It will also not prevent the recovery from such a person of tax payable, in respect of such income. The assessing officer has the option to proceed either against the trustee or against the beneficiary, but in either case, the income to be assessed must be the same sum.

When levying or recovering a tax from a person, there are three-fold consequences:

There would have to be as many assessments on the trustee, as there are beneficiaries with determinate and known shares. For the sake of convenience, there may be only one assessment order, specifying separately the tax due, in respect of the income/wealth of each beneficiary.

The assessment of the trustee would have to be made in the same status as that of the beneficiary, whose interest is sought to be taxed in the trustee's hands.

The amount of tax payable by the trustee would be the same as that payable by each beneficiary, in respect of his beneficial interest, if he were assessed directly.

The next part of this article will be published on August 20. It will contain the method of taxation of a discretionary trust and also some methods for planning by creating private trusts.

(The author is a Chennai-based practising chartered accountant.)

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