Trusts offer a way to protect and manage your assets both during your lifetime and after your death. Assets that can be put into trust include money, shares and investments, and property.
Although there are many different types of trusts, they all consist of the same tri-partite fiduciary relationship between a settlor, trustee and beneficiary.
The settlor is the person who puts their assets into the trust. For example, the settlors could be parents or grandparents wanting to protect their assets for the benefit of their children or grandchildren.
The trustee is the person who manages the trust. This can be the settlor or another party could be appointed, such as a professional adviser.
The beneficiary is the party or parties who will benefit from the trust. For example, grandparents can place assets into a trust for their grandchildren’s university education. They may choose the child’s parents to be the trustees. While the beneficiary is usually a ‘natural person’ or persons, it is possible for organisations to benefit such as companies and charities.
The benefits of using a trust
There are many reasons that people consider putting assets into trust.
The reasons may relate to the protection of the beneficiary. For instance, you may choose to set up a trust to support the beneficiary because they cannot manage their finances due to their age or physical or mental incapacity.
Other reasons may revolve around protecting the assets themselves. Once an asset is held in trust, it belongs to neither the settlor nor the beneficiary. It can, in certain circumstances, be protected from external threats and claims to the assets arising from bankruptcy, legal action or relationship breakdown and family disagreements, provided recovery proceedings have not already commenced.
Using trusts for estate planning and asset management, among consideration of other potential tax planning options, can be a way in which you can manage your tax liabilities while still keeping assets within the family.
There may also be circumstances where a trust can ring-fence and shield assets from inheritance tax liability or an assessment of assets should you be taken into long-term care. However, setting up a trust purely for that purpose may be seen as a deprivation of assets and in such circumstances, your home may still be included in any assessment of assets for this purpose.
To ascertain whether a trust offers the most appropriate or effective option for your needs, it’s important to be clear on what your financial objectives and requirements are.
Common types of trust
There are a number of different types of trust, all of which have different tax implications and benefits to a settlor. In brief, the most common types of trusts are:
Bare Trusts: The assets are held in the name of the trustee. The beneficiary, however, has the right to all of the capital and income at any time, as long as they are over the age of 18. This is a simple trust that can be used to ensure young children don’t get access to large sums of money before they are ready! Transfers to a bare trust may be exempt from inheritance tax as long as the settlor lives for seven years post transfer.
Interest in possession Trusts: The beneficiary is entitled to the income as it arises, but not the assets itself. These trusts are often used where there has been a divorce and a remarriage, but ultimately the wish is for some assets to go to the children from the original relationship. After the settlor dies, the current spouse will have the benefit of the income and possession of the property (in the case of a house), but after their death, the asset will be passed to the children. In certain circumstances, this type of trust can protect your house from being sold to fund care home fees. You may also avoid paying inheritance tax while the asset remains in trust and remains the ‘interest’ of the beneficiary.
Discretionary Trusts: As its name suggests trustees of these types of trust can make decisions about how to use the trust income, and sometimes the capital. This will all be in accordance with the trust deed. Trustees may be able to decide who gets paid out; which beneficiaries to make payments to; how often payments are made and any conditions to be imposed. These are more flexible and are commonly used when the future needs of the beneficiary are uncertain – so they are often used in the case of grandchildren who may have different demands, or where the beneficiary lacks capacity through age or otherwise, and needs the trustees to make decisions about the funds. They can also be used to benefit you, as the settlor. For instance, if you were unable to work due to illness, a discretionary trust could be used to ensure that you have money in the future.
Mixed Trusts: As the name suggests these trusts are a combination of more than one type of trust. They enable your trust to meet a wide variety of needs and are taxed according to the tax rules that apply to each different part.
Accumulation Trust: These trusts allow the trustees to accumulate the income, instead of paying it all out and add it to the capital. Often termed maintenance trust, the power to accumulate the assets is available until a certain date, usually when the beneficiary reaches a certain age, when they then become entitled to the full income.
You can also have mixed trusts and specific trusts for children and vulnerable people. These trusts are subject to special treatment in terms of the tax rules, and professional advice as to the benefits of them should be sought.
The drawbacks of using trusts
The drawbacks of trusts will differ depending on the type that most suits your needs.
While trusts are a useful option for estate planning and asset protection, they mean that you no longer own the asset, so you will no longer be able to dispose of it as you may like, should your life take an unexpected turn.
Some trusts have been hit with sharp tax increases making any potential savings in inheritance tax minimal. It is also important to understand whether transferring assets into and out of trusts will give rise to tax liabilities such as capital gains tax.
Other types of trust will make it impossible for you to access the asset or the income and make it less easy to respond to personal changes in circumstances as ownership of your asset no longer rests with you. They also create administrative duties for the trustees.
Legal advice should be taken to ensure you proceed with the most appropriate type of trust for your requirements, and to draw up the trust deed itself.
What steps do I need to take to set up a trust?
Trusts are complicated; it is essential that they are the best option for your needs and that you select the right type to achieve the outcome that you want .
The trust must also be set up and administered correctly to be effective, which means consulting a solicitor. To save time and costs, it is helpful to consider the following information before any meeting:
1. Which assets to include;
2. Who the trustees are;
3. What powers they will need to achieve your aim;
4. Who the beneficiaries are.
This will make any meeting with a solicitor more focused and efficient. They will be able to recommend the correct type of trust for you to help achieve your goals.
Why you should seek legal advice.
Given the potential financial and tax implications following the setting up of a trust, obtaining professional advice as soon as possible is highly recommended to ensure the suitability of the trust in meeting your needs and that an effective trust deed is drawn up.