A dummies’ guide to Trusts

Deed of trust

Since it began notable development during 12th Century England, the concept of trusts has confused any number of people.   If you have only some vague notion that ‘trusts’ can be used to save money or somehow used for your family’s benefit, but would like to further your understanding, please read on.

What is a trust?

A trust can arise by simple arrangement and there is no legal formality to create it. It basically occurs where a person has and controls property for the benefit of someone else. 

There are various reasons why this arrangement is desirable, outlined below.  However, there are some important points for you to firstly take on board:

The person who creates a trust is called the ‘settlor‘.  The settlor gives property to someone that he or she completely trusts.  That property becomes the trust fund or the trust assets. Examples of property settled on trust include houses, land, shares and cash.

The trusted person receiving and controlling the trust assets is called a ‘trustee‘.  Any person who the settlor decides can benefit from the trust assets is called a ‘beneficiary‘. 

There can be more than one trustee, two to four normally works best.  Beneficiaries can include individuals of any age and organisations such as charities.

The settlor can also be a trustee and a beneficiary. However, whether this is a good idea depends on the taxation and practical implications. 

Normally, the terms of the trust are written in a document commonly referred to as a ‘settlement’, ‘settlement deed’, ‘trust’, ‘trust document’, ‘trust instrument’, or trust deed.   Note that a ‘deed’ is essentially a document that is in writing, signed and witnessed.

The trust document names the trust and the date it was made, the settlor, the trustees, the beneficiaries, and the terms on which the trustees will hold the trust assets for the benefit of the beneficiaries.

Trusts can be created during your lifetime or written into your Will. A trust in your Will, or ‘Will trust, only springs into being at the moment of your death. 

Trusts automatically last for 125 years (the trust period) unless specified to last for a shorter period of time. It is normally better in practice to enable the trust to run for the full period and appreciate that it will in all likelihood be wound up far sooner.

Creating a trust is fundamentally a gift by the settlor.  Broadly, provided that he or she can no longer benefit personally from the gifted property (note that ‘benefit’ is a question of law), then the effect is that the trust assets will no longer be owned by the settlor or, in time, treated as being owned by the settlor for tax and other purposes. 

Lifetime trusts tend to be created by those who have sufficient wealth to do so and a typical driver is preserving and maximising family wealth, while Will trusts are also commonly used to control and protect family wealth, with family harmony and the avoidance of disputes weighing in heavily with the normal desire to mitigate inheritance tax.

The benefits of a trust

Where trust assets are not treated as being owned by the settlor or a beneficiary of a trust, they are not taken into account as part of that person’s assets for inheritance tax or subject to his or her future bankruptcy or divorce court proceedings.  Under current law, such assets are also outside of means-testing by the local authority but it is generally not possible to specifically create a trust for the purpose of escaping local authority means-testing.

Certain assets such as private company shares and land occupied for agricultural purposes can qualify for reliefs from inheritance tax under current law, called business property relief (BPR) and agricultural property relief (APR). Assets that might possibly grow substantially in value in the future can be placed in trust when they are of relatively low value so that the growth in value does not happen while in the ownership of an individual who then dies with an inflated estate for inheritance tax purposes. 

Assets held in trust enjoy a layer of protection not available when an outright gift is made.  A gift made to an individual cannot just be undone and the gifted property then belongs to the person receiving it, even if his or her decisions regarding its use are or prove to be unwise.  Many 18 year olds are sensible but just consider the potentially detrimental effects of gifting a large sum of cash outright to a person of this age.  Held in trust, trust asset can be controlled and used at the discretion of the trustees.

It is crucial to note that the above is dependent on a range of legal factors not within the scope of this article.  The point being made is that there are effects of creating a trust that might have beneficial outcomes for your family. The benefit of a trust is normally of the “wait and see” kind, so patience and some application is required (see below).

Different types of trust

There are various types of trust and they vary in terms of flexibility and taxation. The type of trust that might suit you is a matter for face to face discussion. 

One common type of trust, as an example, is a known as a ‘discretionary trust.   In outline, this is a trust where the settlor gives wide discretionary powers to the trustees to choose which of the named beneficiaries can benefit (if at all), when, to what extent, and the manner of the benefit. 

Here, the beneficiaries have no right to have the trust assets but can merely hope to be considered by the trustees. Since the trustees can also be beneficiaries, this is a good reason to have a number of trustees and perhaps include a trustee who is an objective professional such as a partner level private client solicitor, family accountant or perhaps a trusted financial advisor.

If you co-own property (i.e. a house) with someone else, for example your husband or wife, then you are both trustees of that property since both of you hold the property legally for yourselves as beneficiaries. If you co-own property with someone who you are not married to, it is normally advisable to have a separate trust deed governing the arrangements regarding that property in terms of shares in the property, payment of any mortgage, division of equity, and what should happen on death, relationship break-up, or various other eventualities. 

If you have minor children and die before they are adults, without a Will (for example), the law creates a trust for your children until they reach 18 years of age with the trustees and type of trust being automatically governed by law. The better alternative is to make a Will and decide yourself who your trustees will be and have greater control and influence over any trust arrangement, in the form of a personal letter with your Will setting out your wishes for how you would like your trustees to use your money for your children (a ‘letter of wishes).

The commitment to a trust

The benefits of creating a trust can be substantial in terms of money saving and protective benefit for your family. There are downsides.  The creation of a trust will cost you in terms of legal fees and might give rise to an immediate tax charge. 

Trustees must have regular minuted meetings, an example of the unavoidable administrative burden of running a trust.

HMRC might need to be notified of the newly created trust, with yearly trust tax returns being filed for any trust income or capital gains. 

On-going legal, accountancy and financial advisor’s reasonable charges are part and parcel of normal trust administration, but these should be considered and understood before entering any trust arrangement.

The fundamental importance of trusting the judgement and future conduct of your trustees – “trusteeship”

A person who is a trustee is automatically obliged to observe serious legal duties. These include a duty to comply with the terms of the trust, to act in good faith and in the best interests of the beneficiaries, to take and retain control of trust assets, keep accounts, take advice in connection with the investment of trust assets and to act unanimously and impartially.

Trustees can ‘retire’ and new trustees can be appointed, to ensure that the trust can continue. Above all, a trustee is personally liable for his or her actions in that role, so take care.  Any failure to carry out the duties mentioned above is a ‘breach of trust’ for which there can be personal liability.  Where there are concerns about the behaviour and conduct of trustees, legal advice should be sought.

Final word

Hopefully this article has helped you, but if you would like to discuss anything or have any queries please contact us.

 

 

 

Posted on March 4, 2016 in Knowledge

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