Demystifying Trusts

Demystifying Trusts

What is a Trust?

A Trust is a legal arrangement which essentially separates ownership so that assets are held by someone (known as the Trustee) for the benefit of someone else (known as the beneficiary). The person creating the Trust is referred to as the Settlor. 

How the assets can be managed by the Trustees and how people can benefit from the Trust are governed by a rule book known as the Trust Deed. There are different types of Trust which are distinguished by the terms of the Trust Deed – some Trusts provide certain beneficiaries with certain rights for a defined period of time, whilst others offer more flexibility and provide a ‘wait and see’ approach when it comes to deciding who will benefit, when they will benefit, and how much they will get. 

It is also important to understand that Trusts can be created during a Settlor’s lifetime or on their death through their Will. However, irrespective of when the Trust is created, the benefits are largely the same. 

Benefits of setting up a trust:

Protection and flexibility for all

Trusts can be one of the most misunderstood arrangements when it comes to succession planning. Shrouded in Dickensian mystery and often seen as something only for the rich and famous, Trusts can be overlooked or discounted as part of succession planning without being given the due consideration they deserve. 

Trusts are appealing to high net worth individuals due to the mix of protection, control, flexibility, privacy, and tax efficiency they can offer. This range of benefits, however, make them a valuable tool for people of all financial backgrounds. 

Protection

The ability for the Trust to shield assets from various risks is one of their main advantages. The erosion of ‘family money’ through financial mismanagement, divorce (and the possibility of remarriage in the future) or bankruptcy are key considerations when exploring the transfer of assets to the next generation. 

Although a beneficiary may be able to receive a benefit from the Trust, because they do not own the assets of the Trust outright, the assets are not part of the beneficiary’s personal estate and are not generally treated as such. The difference between who can benefit from an asset and who actually owns it is a subtle distinction, but  a very important one.  

Having the protection a Trust offers can therefore bring peace of mind for a Settlor who is worried about unforeseen circumstances. 

Control

The Settlor dictates the terms of the Trust which therefore gives them a greater degree of control in setting out who will benefit from the Trust, the circumstances in which this benefit will be made available, and how much is ultimately distributed. 

This can be very useful in ensuring that assets are used responsibly or for a specific purpose. For example, providing a deposit for a property purchase for someone in their early 20s could be preferrable  to giving them the monies outright which could be ‘wasted’ on more transient benefits like holidays and fast cars.

Similarly, if a beneficiary has an alcohol or substance dependency, the assets of the Trust can be used to provide a safe place to live or fund treatment and rehabilitation without being available to the beneficiary to fund their harmful lifestyle. 

Flexibility

The ’wait and see’ approach that a Trust offers can provide a very useful level of flexibility. 

Flexibility can be helpful for a number of reasons, from ringfencing capital in case a surviving spouse were to remarry in the future, to enabling children to decide whether they need to benefit from the Trust or would instead prefer for their own children to benefit. 

The flexibility of the Trust is also not limited to who or when a person benefits, but how they benefit. Providing loans to beneficiaries, transferring assets to other Trusts or providing an income to a beneficiary are all ways Trustees can make  assistance available from the Trust. This will all depend on the personal circumstances of the beneficiaries, as well as the wishes of the Settlor, but the flexibility the Trust provides makes this all achievable.  

Privacy

Creating a Trust during lifetime can provide a high level of privacy. Whilst most Trusts now have to be registered with H M Revenue and Customs for anti-money laundering purposes, the information collected is limited and the register is not publicly searchable (although requests for information can be made in limited circumstances).

Beneficiaries of the Trust do have legal rights to certain information about the Trust, but aside from this the terms of the Trust and the decisions made by the Trustees are all private. 

This can be contrasted to a Will, for example, the contents of which are made public following death once the Grant of Probate is issued. For Trusts created during lifetime, this also negates the need for a Grant of Probate on the death of the Settlor so far as it relates to the assets held in the Trust. The ability to access assets held on Trust following death without the delays currently experienced in apply for a Grant of Probate can be hugely beneficial for those left behind.

Tax Efficiency

One of the biggest misconceptions is that Trusts are only used for tax avoidance purposes. This is somewhat ironic as there is a specific tax regime that applies to Trusts, which in many ways is far from straightforward. This is in no large part due to the fact that the tax regime which applies to Trusts balances the interplay of Income Tax, Capital Gains Tax and Inheritance Tax. How these taxes apply depend on the type of Trust created, who the beneficiaries are, and what assets are held by the Trustees.

That being said, in the right circumstances, Trusts offer a way to mitigate various taxes by utilising the exemptions and reliefs which are available within the tax rules. This is not due to any contrived planning from a Trust perspective, but merely how the rules apply to Trusts.

For example, transferring shares in a trading business into Trust should result in no immediate charge to tax on the creation of the Trust. So long as the Settlor has no right to benefit from the Trust and survives for 7 years, the assets held in Trust will not form part of the Settlor’s estate on death. If the business is then sold, the cash sale proceeds can be held within the Trust in a tax efficient manner and used for the benefit of the beneficiaries in the most tax efficient way depending on their circumstances. Tax reliefs available on the sale of a business can also be available to the Trust in the right circumstances.

Conclusion

For all their benefits, whether or not a Trust is the most appropriate vehicle for someone will depend on the Settlor’s personal and financial circumstances, the personal and financial circumstances of the intended beneficiaries, what the Settlor wishes to achieve, and their motivation behind their overall succession and tax planning.

There is not a ‘one size fits all’ approach when it comes to Trusts, and ultimately the best way to demystify Trusts and explore whether they are right for you usually starts with a conversation. 

At Hill Dickinson, our team of trust legal experts can assist with all aspects of succession planning, including the creation and administration of Trusts. Contact Richard Marshall to discuss the way in which a Trust can be used as part of your succession planning.