Our legal team have answered common questions relating to trusts.
Simply click on the question below to find out more…
What is a trust?
It is sometimes easier to recognise a trust than describe one, but a legal definition is that a trust is an obligation binding a person (the trustee) to deal with property over which he has control (the trust property) for the benefit of persons (the beneficiaries) of whom he himself might be one and any of whom might enforce the obligation.
What are the duties of the trustee, and what if the trustee gets it wrong?
Any act or neglect by the trustee which is not authorised by the terms of the trust (or the law) is called a breach of trust. As their name implies, trustees have very specific duties and obligations. They owe a duty of loyalty, honesty and good faith to the beneficiaries and they must not allow personal interests to conflict with those of the beneficiaries.
Who is a settlor?
The person who establishes the trust. They are the person who transfers money or property to the trustees.
Can the same person be the settlor, a trustee and a beneficiary?
The settlor may also be a trustee (but not the sole trustee) and they may also be a beneficiary. In some cases the appointment of a beneficiary as trustee gives them a direct interest and involvement in the trust’s affairs, especially if the trust is set up for the benefit of their family. Careful drafting of the trust document will be required to manage possible conflicts of interest.
Why would I want to set up a trust in the first place?
For a number of reasons.
- Outright gifts to an individual may not always be appropriate if the beneficiary is very young, or financially irresponsible or at risk from creditors.
- Beneficiaries of a well drafted trust cannot squander the trust property, and it is not at risk from creditors.
- Ring-fencing property in trust from claims by son-in-laws or daughter-in-laws on divorce may be advisable.
- The beneficiary may be disabled or just unable to manage money, or at risk from losing state benefits if property is given outright.
- Trusts of damages have welfare benefit advantages. Where the money in trust is compensation paid for any personal injury to the beneficiary, the value of the trust fund and the value of the right to receive any payment under the trust is disregarded for the purposes of income support.
- The use of a trust may be more appropriate where outright gifts to individuals as part of basic inheritance tax planning would be at risk, and you may prefer to leave the decision making process to people you can trust.
- You may want to take the value of property, and possibly its future development value, outside of your estate without losing control of it. Provided you are prepared to relinquish any benefit from it, a trust will provide a flexible decision making process to deal with the trust property.
Can I avoid care fees by putting my property in a trust?
If a motive, and not necessarily the main motive, of transferring property to a trust is to avoid care fees, then probably not.
A resident (the person in care) may be treated as possessing actual capital of which he has deprived himself for the purpose of avoiding or decreasing the amount that he may be liable to pay for his accommodation. It means that a transfer of the family home to a trust in which you reserve a life interest risks the deprivation rule overriding the “disregard” of your life interest in the property, and the value of the property you have given away will still be taken into account. The Local Authority must be able to link the transaction to the claim for financial support.
There may, however, be perfectly good reasons to transfer property to a trust. You may want to unburden yourself of responsibility for the property but protect your right to live there, and protect your life interest from family members’ creditors or their spouses.
You may be concerned about losing capacity to manage your property and affairs at some future time and may not want to leave matters to an attorney with limited powers to deal with your property. Likewise, you may not want to leave it to your family to go to the expense of a Court application to appoint a Deputy for you if you lose capacity to appoint an attorney yourself.
Bear in mind there is no time limit in which Local Authorities may review transfers of property previously on a means test to establish a motive, but if you are in good health with no intention of ever going into care when the trust is created, then the risk of a Local Authority linking the transaction with a future claim for care fees should fade over time.
What is the least I can do to avoid my share of the property being assessed if my spouse goes into care?
Make a Will leaving a life interest in your share of the property to your spouse. The value of property in trust is disregarded on a means test. Bear in mind the deprivation rule is not relevant to Will planning because the survivor cannot have deprived themselves of property belonging to the deceased.
What is a disabled person’s trust?
Trusts are the traditional means of providing for a mentally handicapped or a disabled beneficiary.
It may not be appropriate to leave substantial amounts to a friend or relative to look after the disabled beneficiary without the formal structure and obligations of a trust. The alternative of a Court appointed Deputy (if the beneficiary is incapable of managing his property) involves formal procedures and may involve substantial costs. If preservation of means tested benefits is a priority, it is better to settle cash or property for the beneficiary in trust.
The Government recognises the need to protect property for a disabled beneficiary and has granted some relief from the trust taxation regime for trusts set up during a lifetime. A lifetime settlement of trust property for a beneficiary who is disabled is now the only lifetime transfer of value to a trust which is treated as a potentially exempt transfer. Unlimited amounts of cash or property may be transferred to a disabled person’s trust without triggering an immediate charge to inheritance tax. Provided the settlor survives the gift by 7 years there will be no IHT to pay, and a disabled person’s trust is not subject to ten year anniversary and exit charges on the value of property in the trust or leaving it. There are still income and capital gains tax consequences to consider and professional advice should always be sought.
How are trusts taxed?
Trust taxation is complex. You should always take professional advice before transferring any property to a trust.
The Inland Revenue can regard a trust simply as a tax avoidance vehicle, or even a sham if it is not set up properly in the first place.
All new trusts set up by a lifetime disposition now (other than a trust for a disabled beneficiary) are taxed as “relevant property trusts” and subject to ten year anniversary charges and exit charges on the value of property leaving the trust.
The transfer to the trust is a chargeable transfer, and surplus value over and above the settlor’s unused nil rate band is taxed at the lifetime rate of 20%. If the value of property or the cash transferred to the trustees is within the settlor’s nil rate band then the charge is nil.
The maximum ten year anniversary charge and the maximum rate at which the value of property leaving the trust is taxed is 6%. The potential 20% lifetime rate on the value of property transferred to the trust, and the ten year anniversary and exit charges of 6% or less, compare favourably to the death rate of 40% if the property were to remain in the settlor’s estate.
There are capital gains tax implications that are beyond the scope of this note, and the trust will be subject to tax on income.
What are personal injury trusts?
Trusts set up to receive awards of compensation for personal injury to the beneficiary. Trusts of damages have welfare benefit advantages because the compensation in trust is disregarded for the purposes of income support and other welfare benefits. If a trust for a disabled beneficiary is set up as part of a personal injury claim, periodical payments are not subject to income tax.
What are pilot trusts?
A pilot trust is created with a nominal sum (typically £10) with the intention that substantial assets will be added later, usually by Will. Use of pilot trusts (there can be any number of such trusts) set up during a lifetime is an extremely effective way of reducing the potential tax on a substantial amount divided between those trusts, because each trust benefits from a full inheritance tax nil rate band. If it were otherwise left to one trust by Will, only one nil rate band would be available during the life of the trust.
Pilot trusts can also be nominated to receive tax free lump sum payments on the death of a pension plan or policy holder.
I have a valuable property that I want to give away, but if I do that I will be faced with a large CGT bill. Can I give the property to a trust instead?
Yes. Because the gift to the trustees will be a chargeable transfer for IHT purposes, you can elect to holdover the capital gain. You and your spouse and minor (unmarried) children must be excluded from benefit, although adult children need not be. Beware that the gift will trigger an inheritance tax charge at the lifetime rate of 20% on the surplus value over and above your unused nil rate band. Transfers of value within your nil rate band will not be caught, and holdover relief from CGT will still be available.