Guide to Trusts in Wills

In October 2007 the Government announced the ‘transferable nil rate band’ between spouses or civil partners with immediate effect. This introduced a method of using the inheritance tax (IHT) nil rate bands of both spouses/civil partners even if they had omitted to take advantage of it themselves, either by making lifetime gifts, or using ‘Nil Rate Band Trusts’ in their Wills, or even if they failed to make a Will at all.

In turn that has provoked many clients to ask – do I really need a Trust in my Will? While the transferable nil rate band may enable some couples whose assets are around the £650,000 level to ‘keep it simple’ when making their Wills, there are many families for whom Trusts will still be appropriate whatever the value of family assets.

What is a trust?

A trust is a legal device which allows an individual (the ‘settlor’) to transfer some of their assets to an intermediary (the ‘trustee’) to look after.

The trustee then controls and manages those assets, for the advantage of a person that the settlor wishes to benefit (the ‘beneficiary’).

How are trusts created?

At Stone King we can create a Trust during a person’s life time by a legal document called a deed. Alternatively we can draft a Trust in a Will, so it is created on a person’s death. 

Whether made by deed or Will the document will define: the trustees, the beneficiaries, the assets, the rights of the beneficiaries, and the powers, duties and discretions available to the trustees.

Asset Protection

Trusts still have a significant part to play for all the old fashioned reasons, such as protecting family assets by appointing trustees to look after them when you are unable to do so yourself – whether in your lifetime or from beyond the grave.

At a simple level it comes down to the question of do you trust your spouse or children (or other intended heirs) to look after their inheritance wisely, or not?

Apart from the tragic cases of handicapped children, and regardless of tax planning considerations, ‘asset protection’ is a major factor when clients contemplate the marriages of their children. The possibility of divorce threatening family wealth is a major concern to the older generation nowadays.

Of course, at an earlier age, parents or grandparents worry about how the younger generation will ‘turn out’ before they even reach the marrying stage. While children are under 18 a trust to hold the assets pending majority is required by law, but special tax-favoured Trusts can be created by Will (not in your lifetime) for children or grandchildren in the 18 – 25 age bracket.

In the case of younger couples, a sudden death may leave a survivor who is quite likely to remarry. That may leave family assets vulnerable to dissipation at the hands of the second spouse, and deprive the children of the first marriage of their inheritance. A ‘life interest’ for the surviving spouse can provide the answer. “Of course, at an earlier age, parents or grandparents worry about how the younger generation will ‘turn out’ before they even reach the marrying stage. ”

A basic example.

A settlor who is a parent may wish to set aside a sum of money for the benefit of their adult child, but because the child is poor at managing money, the parent wants the money to be controlled by an intermediary (the trustee) who has the responsibility of deciding how and when the money should be spent for the benefit of the child.

The settlor ‘trusts’ the intermediary with responsibility to manage the money properly, and so the money is said to be ‘held in trust’.

  • The assets do not have to be cash, they can be anything of value.
  • The settlor does not have to be a single individual, it can be several individuals, or even a company.
  • There can be multiple beneficiaries.
  • What other examples of trusts are there?

In the example above, the money was held in trust because the settlor believed the beneficiary was financially irresponsible, but it may be that the beneficiary was simply under the age of 18 (and so not permitted to manage their own financial affairs) or it may be that the beneficiary was mentally incapacitated, and so does not have the ability to manage their affairs. 

Trusts can also be used to protect assets for the next generation, while allowing someone to use the assets during their lifetime.

A typical illustration would be where a married person, with children from a previous marriage, may wish to allow their current spouse to live in their house after their death, but ultimately want the house to go to their children.

Alternatively a married person may be concerned that, after their death, their spouse may remarry, and ‘cut out’ their children from any inheritance. In these cases, trusts can be set up to ensure the ultimate destination of the assets.

Assets can also be protected from the undue influence of third-parties. In other words, a settlor who is concerned the beneficiary may be persuaded, or coerced, or ‘conned’ into handing over money to a third party, can set up a trust to ensure the beneficiary does not have direct access to the money.

Trusts can be used to protect assets from creditors; useful if the intended beneficiary (or indeed their spouse) is involved in a risky business.

Trusts can also be structured to be extremely flexible, so that the amount of the assets that a beneficiary receives at any point in their lives, can be varied to match their needs.  For example a disabled person’s condition may worsen, or a young beneficiary may need extra funds to help them through university, or to relocate. We can create Trusts to cope with all of these uncertainties.

From a tax point of view, if money is held in trust it may technically not belong to the beneficiary, which means the beneficiary may be able to escape a tax liability.

Passing down the family business

Where family assets include shares in businesses, there may be conflicts between the needs of the family and the control of the business, when other shareholders or staff are involved.

Trusts of one sort or another are almost bound to be part of the solution where the value of the business interest is intended to pass to the immediate family, while shares and/or voting control of the shareholding or partnership assets is destined to pass to the shareholders or other partners.

Tax Planning - using 3 nil rate bands?

In the rush to ‘keep it simple’ by making Wills without Trusts there can be some lost tax planning opportunities. For example, Trusts can facilitate the use of three nil rate bands worth £975,000 in 20130-14, instead of only two, potentially saving an extra £130,000.

Flexibility to cope with uncertainty

There are some clients who find for one reason or another that they cannot make up their minds about the distribution of their assets. These might be people without children, or with one child who is already very well provided for, and others who are not, or children or grandchildren suffering physical or mental disability.

In such cases, Trusts can provide flexibility when coupled with a “letter of wishes”. This can explain to the Will trustees what the testator would want in various circumstances.

Then, there are the happy couples who know without fail that whoever dies first the surviving spouse/partner can be relied on absolutely to ‘do the right thing’. This might apply as far as tax planning, or the adjustment of asset values between children or other beneficiaries are concerned. But what if the survivor succumbs to Alzheimer’s disease and is simply incapable of taking action?

A Will trust can provide solutions by leaving the decision making to well chosen trustees.

Types of trust

There are a number of different types of trust.

The type of trust used determines the rules for the trustees and tells them exactly what powers they have over the assets held in the trust for the benefit of the beneficiaries. 

Each different type of trust is treated differently for tax purposes.

Discretionary trusts

As stated previously, the people who benefit from a trust (the beneficiaries) are named by the settlor in the document that creates the trust, and the funds held in most trusts are invested so that they earn an income.

In a discretionary trust the trustees decide which of the beneficiaries receives that income. If they choose, they can also pay out the funds (‘the capital’) to any of the named beneficiaries. The beneficiaries however, cannot demand that they are paid any of the money held in trust.

In other words, the trustees can vary which beneficiaries to pay and how much to pay them, depending on the circumstances of the potential beneficiaries at the time. In turn this means that the distribution of the assets is so flexible, that it can deal with circumstances that the settlor could not have envisaged when the trust was made.

Interest in possession (fixed interest) trusts

In an interest in possession or a life interest trust, the settlor can give temporary rights to a beneficiary to use the property, or any income earned from the property. At the end of a defined set period (often the death of the settlor) the property is then given permanently to another beneficiary, chosen by the settlor.

Beneficiaries who are able to use the property during their lifetime are known as the ‘life tenants’. Those who ultimately inherit the property are called the ‘remaindermen’.

This type of trust is often (but not always) used by people who want to ensure that their house ultimately goes to their children, but who also want their partner to be able to live in the house during their lifetime.

Stone King will tailor these trusts to suit your circumstances. For example, a life interest trust of a settlor’s home can be drafted so that it ends if the surviving partner remarries, or moves out of the house permanently.

It can also be structured so that the surviving spouse can move home if they choose. In these circumstances the terms of the trust transfers to the new property, and so the children ‘inherit’ the new property when the life interest trust ends, instead of the original property.

We can draft life interest trusts to be as flexible as the settlor wants. For example, if the settlor wishes, we can draft the trust to give the trustees the power to advance capital to the life tenant; or conversely to end the right to income.

Interest in possession trusts can also be used to protect the assets from vulnerable or spendthrift individuals, because by only paying income to the life tenant, the capital will then be preserved for the remainderman.

Bare Trusts

In a bare trust, the settlor gives the assets to the trustees to hold for the benefit of the beneficiaries, but the beneficiaries have the right to demand the income or the assets at any time.

Charitable Trusts

Charitable trusts enjoy tax benefits, and offer the trustees greater freedom, but a charitable trust must be able to demonstrate both a charitable purpose and, a public benefit. How a ‘charitable purpose’ and a ‘public benefit’ are defined is a technical area, and one that requires careful legal consideration. Charitable trusts cannot be run for profit.

(a) Disabled Persons trusts and (b) Personal Injury trusts

​Disabled Persons and Personal Injury trusts offer the trustees tax advantages, and can also, in certain circumstances, and under certain conditions, be used to protect the beneficiary’s entitlement to state benefits.

  1. In the case of a Personal Injury Trust the beneficiary has 52 weeks from the payment of an interim distribution to place the money in trust.
     
  2. In order to qualify for a disabled person’s trust the beneficiary must be either incapable by reason of mental disorder of administering his property or managing his affairs, or in receipt of Attendance Allowance or Disability Living Allowance at the middle or higher rate
Choosing Trustees

Where the ‘trust’ really comes into play is in your choice of trustees. Can your spouse/partner or children be trusted to make good decisions regardless of conflicts of interest? Or do you need family friends, or independent professional trustees, to carry out your wishes?

Summary

In summary, trusts can cause a layer of complexity and this may well add some expense to the administration of your estate. But a trust can also confer vital flexibility, whether to protect family assets, facilitate tax planning, or to allow for changes in family circumstances as time goes by.

It is not just a matter of ‘do you trust your spouse, children’ etc. but whether a trust in its own right can simplify the management of family or business assets through a crisis which you might anticipate, but not exactly predict.

The law and practice referred to in this article has been paraphrased or summarised. It might not be up-to-date with changes in the law and we do not guarantee the accuracy of any information provided at the time of reading. It should not be construed or relied upon as legal advice in relation to a specific set of circumstances.

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