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Trusts are used when an individual or two or more individuals (in trust terms, “the settlor” or “settlors”) arrange for specific assets to be legally owned by appointed individuals (known as “trustees”) to hold those assets on behalf of other individuals (known as beneficiaries). Trusts have been used throughout history to address problems in two main areas: domestic and taxation. Your exposure to Inheritance Tax can be reduced by creating lifetime trusts or a Will trust to take effect on your death. Alternatively, you may simply wish to protect your assets for your children or a future generation.
Various forms of trusts are available for both lifetime execution and for inclusion in your Will, to take effect on your death. The type of trust you require will depend entirely upon your circumstances. Since the Finance Act 2006 and the introduction of a new trust taxation regime, we are now left with two main types of trusts.
Interest in Possession Trusts:
Do you want to leave your spouse in good financial standing and still be able to provide for your children?
A Will trust for your surviving spouse can ensure that your capital is protected for your children but without loss of benefit for your spouse during widowhood. This type of trust is also known as a life interest and can be used to provide an income to your spouse or another individual for the duration of their life, or to cease upon the occurrence of a specified event such as remarriage. A life interest trust in which the surviving spouse is the life tenant permits spouse exemption from Inheritance Tax on the first death. Unfortunately, Inheritance Tax does apply in respect of any other life tenant where the trust exceeds the nil rate band allowance.
Discretionary Trusts:
You as the settlor choose a class of potential beneficiaries and give your trustees the power to determine how much, if anything, each beneficiary should receive and when. The settlor does not determine in advance, the precise extent of each beneficiary’s entitlement.
Do you wish certain beneficiaries to be protected?
- You can potentially protect against a beneficiary’s future divorce, financial immaturity amongst a number of other family circumstances.
- You may also set up a discretionary trust (within the prevailing nil rate band )under your Will for inheritance tax planning purposes.
- Discretionary trusts can also be used for the purposes of catering for a disabled beneficiary who would not be entitled “as of right” to the trust fund but would be amongst a class of potential beneficiaries. This may be useful where the child is in receipt of benefits, which could be affected if the child inherits under a will or is given an outright entitlement under a lifetime trust.
NB: Any discretionary trusts in excess of the nil rate band executed during the lifetime of the settlor are subject to a one-off IHT charge of 20% but where the contribution is below the current nil rate band, no lifetime IHT charge is due .
Bare Trusts:
These do not fall into the new trust taxation regime as they are held for a beneficiary who is absolutely entitled to the trust fund.
Conclusion:
The trust taxation regime was introduced and effective from March 2006 and will apply to all lifetime trusts and Will trusts in excess of the nil rate band, however, in many cases, where the testator or settlor consider it necessary to protect a beneficiary from their own immaturity, the additional “overheads” relating to all trusts in excess of the nil rate band may still be a viable option especially where the ongoing tax charges are unlikely to exceed the possible IHT charge on the death of a settlor/testator.
Quick Links
- What is the new residence nil rate band all about?
- Making a trust
- Lasting powers of attorney v deputy orders
- Probate - Do it yourself or appoint a professional?
- The TEACO guidance on lasting powers of attorney™
- The TEACO DIY wills warning™
- The TEACO GUIDANCE on making a will™
- What is the transferable nil rate band?
- How can you make a gift of 10% of your estate to charity in your will and ensure your beneficiaries a reduced inheritance tax rate of 36%?
