Trusts have been used for hundreds of years, however it was not until the shift from common law to the concept of equity that we saw an increase in their use and NOT for tax planning reasons.
Those going on the Crusades would entrust their estate to another while they were away. On their return they would reclaim their lands from the trustee, however the trustees often had other ideas which meant a petition to the Lord Chancellor.
The use of trusts was common practice in family wealth and tax planning, but more importantly family wealth planning, until 2006 when there was a significant change to their Inheritance Tax (IHT) treatment. Prior to 2006, the only transfer into trust which resulted in a chargeable event for IHT purposes was a transfer into a discretionary trust. From 2006, a transfer into any trust has been a chargeable transfer for IHT purposes, precipitating a dramatic reduction in the number of trusts created.
Is there still a place for family trust?
By way of example, if grandparents want to provide for their grandchildren’s education, they could each put up to £331,000 into a trust in year one (the unused part of each of their nil rate band of £325,000 and annual allowance for two years of £3,000 a year). Grandparents could therefore place £662,000 into either a single, or separate, trusts. Provided they survive seven years, this gift will be outside the scope of IHT, meaning they once again have the full use of the nil rate band. This could result in an IHT saving of £264,800.
Of course there will be costs of administering the trust. Let us assume these are £3,000 per annum (note: we have ignored investment management fees for this purpose as it is anticipated these are currently being paid personally). Over ten years, this amounts to £30,000 which is a substantial sum, but it is considerably less than the potential tax saving of £264,800. Trustees would also be able to obtain income tax relief on trust administration expenses.
Seven years after the first gift, the grandparents could consider further transfers.
The example above concentrates on grandparents. The concept can equally applies to parents, however they need to enter into a trust with the knowledge that they should not access the funds for the benefit of their children before they are 18. If they do, this would have tax consequences on them as parent settlor.
A trust often protects the beneficiary from themselves as the trustees can control the flow of money. An alternative is to place funds in a bare trust; however the assets become the beneficiary’s as of right from the age of 18, in other words just when they are typically going to university.
Given the flexibility it is likely that a fully discretionary trust would be preferable, however we would suggest a full discussion on the type of trust when discussing with an adviser.
Any trust is subject to income tax, capital gains tax and IHT and we will discuss these in future articles in Family Wealth Management.
By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article. This briefing does not constitute advice nor a recommendation relating to the acquisition or disposal of investments. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. Details correct at time of writing.
This article was previously published on www.smithandwilliamson.com prior to the launch of Evelyn Partners.