As much as I try my best to start these articles on a positive note, this may be the exception to that rule in that if you’ve heard the phrase ‘there’s only two things that are certain in life – death and taxes’ then this article covers both!

However, let’s swing the sails back around and look at what we can do to minimise the impact of what’s aptly named as ‘the death tax’ (Inheritance Tax – IHT) by looking at how we can use different types of trust funds to help protect your legacy.

In addition to making a Will, trusts are the cornerstone of good IHT planning, having been used for many years to help resolve issues over how your estate is distributed as well as to reduce your tax liability.

Each individual has a nil rate band allowance of £325,000 or £650,000 for married couples (2015/16).  Anything above this amount is currently taxed at 40%.

A trust is a formal arrangement where you (the settlor) transfer legal ownership to a trustee who is designated to look after the assets from your estate on behalf of your beneficiaries. Trusts can be set up whilst you are still alive or written into your Will to take effect after death.  They are generally used when there are child beneficiaries or beneficiaries who are incapable of looking after their own affairs.

Most trusts can be written as either an absolute trust or a discretionary trust, depending on your circumstances.

Absolute Trust Funds:

  • You are required to select both the beneficiaries and their fund share when the trust is set up
  • Beneficiaries cannot be changed once the trust has been set up.
  • All capital growth is immediately classed as outside of your estate and the trust itself will not be subject to any periodic or exit IHT charges.
  • Each beneficiary’s share of the trust fund will be treated as forming part of their estate for IHT purposes.
  • HMRC do not require details of absolute trusts to be disclosed to them at present

Discretionary Trust Funds:

  • Can be used if you are undecided on distribution of your assets or to allow for future beneficiaries – children or grandchildren for example as you do not have to name them at the time of setting up the trust and therefore the trustees have the flexibility on who will benefit from the trust assets.
  • May incur IHT charges during lifetime and after death depending on the value of the trust.
  • They carry an HMRC requirement to disclose details of the trust at specified times.
  • May incur ongoing charges for advice given to the trustees and settlors (although trustees should not pay for ongoing advice given to you (the settlor) as that could be regarded as a breach of trust with adverse tax consequences).

The following is an example of the some of the different types of trust funds available:

Type of Trust Description
Discretionary Will Trust
  • Works in a similar way to a Discretionary trust but is written into your Will to take effect on death
  • On death, assets up to your nil rate band allowance (NRB) is put into trust for the beneficiaries, which means they are outside of your estate if you have a surviving spouse
  • Trustees may be able to make loans from the trust to the surviving spouse if needed
Discretionary Trust
  • Gift assets up to the full nil rate band (NRB – £325,000 / £650,000 for married couples)
  • Assets will not count as part of your estate as long as you survive another seven years
  • You can retain some control over their management and distribution
  • Any subsequent income and capital gains whilst the assets are in trust are not considered a part of your estate
Discounted Gift Trust
  •  Allows lump sum gifts into trust which allow you to receive a regular income
  • The ‘discounted’ part of the lump sum is not treated as a gift for IHT purposes and therefore reduces the value of your estate
  • The size of the discount increases, the more you withdraw and/or the greater your life expectancy
Loan trust
  • Helps to reduce IHT liability without incurring pre-owned assets tax· Provides regular income payments from the funds· Provides you with access to the capital during your lifetime
  • Protects capital for beneficiaries after death
  • Provides the ability to retain a high degree of control over who will benefit after death
  • Has a wide range of investment funds available for capital growth
Spousal bypass trust
  • Allows you to protect your pension fund from IHT liability and is kept outside of the estate of your surviving spouse/civil partner
  • Allows you to instruct trustees to make agreed payments from the Trust Fund to your chosen beneficiaries
  • Can be set up to nominate the trust as the beneficiary to receive all or part of the death benefits from the pension scheme.

These are just a few of the different types of trusts available. Choosing the right ones for your circumstances can be complicated, so it is important to seek advice to ensure you make the most of these strategies in your IHT planning.

The purpose of this article is to provide technical and generic guidance and should not be interpreted as a personal recommendation or advice.


Angus Kirk

Financial Planner at Bridge Investments
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