Spain: How should irrevocable trusts be treated for Spanish tax purposes? Quick review of the Spanish tax agency approach

February 27, 2018

It is widely accepted that the tax treatment applicable to trusts in Spain is undefined. For this reason, it is necessary for the particular facts and circumstances of each trust to be considered in order for an accurate assessment of the Spanish tax implications to be prepared. However, from time to time, the Spanish tax agency (Agency) provides certain insights into the tax treatment applicable to trusts through its formal reply system to taxpayer consultations.

Although these public replies only bind the Agency to the particular taxpayers involved in the consultations and to those with an identical situation as the one queried, they provide some insight in relation to the views held by the Agency regarding trusts and are indeed a useful tool to address a trust situation when the settlor and/or the beneficiaries become Spanish tax residents.

To date, the general position which has been taken by the Agency has been to fully disregard trusts and to consider that the settlor and the beneficiaries are the actual actors of the trust, ignoring the role played by the trustee. In order to assign the trust assets to the settlor or the beneficiaries, the Agency appears to consider that irrevocability, in the general case of US trusts, or whether the settlor actually retains an interest, in the case of UK trusts, is the key factor which determines whether the assets actually derive from settlor wealth or not.

In the past few years, the Agency has issued a number of consultations on the trust issue. In this regard, some of these consultations have addressed the irrevocability and settlor interest issue from the beneficiary Spanish tax perspective. In particular, in April 2016 the Agency considered for a US irrevocable trust that its incorporation implied an actual transfer from the settlor to the beneficiary, despite the fact that the latter had no power to compel the trustee to distribute a share of the trust assets.

This approach implied that, provided the beneficiary was a Spanish tax resident, the beneficiary was liable to Spanish income tax and wealth tax respectively on the incomes and ownership of the trust assets.

In March 2017, the Agency applied the above approach again in its response to a separate consultation. In this case, irrevocable trust assets were deemed to be assets of the beneficiary, even though the beneficiary had no authority to dispose of and administer the trust assets and its revenues.

This approach actually creates a great number of inconsistencies and irregular situations where beneficiaries will be liable to Spanish taxes even though they may not be in receipt of any distributions from the trust.

Moreover, this approach becomes more inconsistent where the trusts include more than one beneficiary. In particular, given the nature of trust structures, it is not certain whether all beneficiaries will be in receipt of distributions from the trust and at what point in time such distributions will occur.

The Agency has tried to address this paradox by requiring that the split be done in accordance with the agreements included in the particular trust deed and under the relevant applicable trust law.

This requirement may not provide any accurate solution if the position of a discretionary entitlement remains unclear or challenging. In the context of this problem and without prejudice to the general uncertainty associated with trusts from the Spanish tax perspective, the option of specifying in the trust provisions precisely the entitlement of any Spanish resident beneficiary is indeed a way to try to mitigate undesirable Spanish tax costs.