HNI interest in trusts grows on dividend tax

MUMBAI: High net worth individuals (HNIs) are showing a keener interest in setting up private family trusts. While interest in trust structures has been growing over the past few years, recent months have seen a spike in inquiries by 25 to 50%, say consultants.

The trigger is that post the recent Budget, resident Indian shareholders earning an aggregate dividend income of Rs 10 lakh or more in a year have to pay a flat rate of 10% on such income. By setting up trusts, there is a possibility of reducing this tax outgo or doing away with this tax liability.

This flat tax, as the explanatory memorandum to the Finance Bill clarifies, is payable by residents in India who are 'individuals', 'hindu undivided families' or 'firms'. Thus, it may be possible to argue that dividend income earned by a discretionary trust, even if in excess of Rs 10 lakh, would be exempt from tax in the hands of the trust. However, if this view is adopted, litigation may arise in the future.The icing on the cake is that fund distribution by a trust is not taxable in India, in the hands of beneficiaries (who typically comprise an HNI and his family members).

Another option available to an HNI is to divide his share portfolio between his individual and trust holdings. “HNIs have a shown a renewed interest in forming trusts structures to separate the shares that they intend to hold long term for the benefit of their family. Such shares are housed in a private family trust, whereas the HNI retains in his individual capacity shares in which he intends to trade. The dividend income received is thus separated between the individual HNI and the private family trust. Distributing the dividend income, in such a manner, can result in lowering or eliminating the probability of imposition of the new tax," explains Neha Pathak, head of trust & estate planning, Motilal Oswal Private Wealth Management.

To illustrate, if an HNI has a dividend income of say Rs 15 lakh, he could divide his investments between a trust and individual holding in a manner that the dividend is split and reduced to below the Rs 10 lakh threshold in his hands. The maths and tax risks (if such structuring is viewed by tax officials as a tax evasion device) would vary from case to case.

“HNIs who are showing an interest in trust structures are an even mix of promoters of family owned businesses and highly paid professionals, with an increasing rise in inquiries from the latter.But, at an overall level, around 60% of the HNIs exploring trusts are businessmen," says Gautami Gavankar, principal advisor, estate planning, Kotak Mahindra Trusteeship Services.

Benefits of a trust
While inquiries for setting up trusts have spiked recently, interest in tax structures has been growing steadily over the past few years as the benefits are multi-fold.

Both Pathak and Gavankar believe the core interest stems from an efficient succession planning which trusts enable. It provides an upfront solution to any possible future disputes within the family , including any challenges to a will at a later date. "Further, trusts also offer ring-fencing of assets from future liabilities or possible re-introduction of estate duty in India," adds Gavankar.