Trusts – back to basics

However, if you are unfamiliar with how a Trust works, it can be quite daunting when your advisor starts to talk about setting up and using a Trust.  This article is aimed to be a short “back to basics” summary to help cut through the jargon and provide an indication of how a Trust may work for you and your family.

What is a Trust?

An express Trust is an arrangement which is purposely set up to hold assets such as cash, shares, land, property etc. for the benefit of certain individuals or charities.  By contrast, implied Trusts arise by operation of law, however, the following notes relate to express Trusts.

All Trusts have the following aspects in common:

A Settlor – this is the person who has gifted the assets to form the Trust fund.

Trustees – these are the people who are charged with looking after the Trust investments.

Beneficiaries – these are the people who will benefit from the Trust fund.

A Trust Deed – this documents the terms of the Trust and identifies the Settlor, Trustees & Beneficiaries.  Trusts established by living Settlors will be created by the Settlor signing the Trust deed.  Where a Trust is created via a Will, it comes into being on the death of the Settlor; there is no separate trust deed but instead, the terms of the Trust and the details of the Trustees and Beneficiaries are contained within the Will.

Why create a trust?

Trusts can be created in the Settlor’s lifetime, or after death via the Settlor’s Will – commonly known as Will Trusts.

Trusts are often created for tax planning reasons; however, they can also be useful for asset protection; in succession planning in order to direct how assets are to be passed down among the generations of a family; or to ensure that a certain individual continues to enjoy the benefit of certain assets.  It can be useful for inheritance tax planning to gift into Trust assets which are currently of a relatively low value, but which are expected to rise in value in the future.

Who should be a trustee?

The choice of Trustees is very important as they will be the people who will be charged with looking after the Trust fund.  They will need to deal with the Trust assets as set out in the Trust deed or the will; make decisions regarding how and when to invest the Trust monies; arrange payment of Trust expense; and, depending on the terms of the Trust, when and whether to make distributions to Beneficiaries.  They will also need to comply with the ongoing compliance obligations for the Trust – for example, the completion of annual tax returns.

A Trust can be operated with a single trustee, however, usually, there are at least two or three Trustees involved.  A maximum of four trustees can be appointed unless the trust is a Charity.  Trustees are frequently individuals but a Trust Corporation, which is a special type of Limited Company, can also be appointed.  Some transactions legally require at least two Trustees to be involved – unless the sole trustee is a Trust Corporation.

Being a Trustee can be time-consuming – particularly where the Trust is very active with lots of different income sources, or where Beneficiaries make regular requests for distributions.  The position can also involve making difficult decisions, for example, where there are family tensions between Beneficiaries who may have different entitlements under the trust deed.

Very broadly the duties of a Trustee comprise the following:

  • Maintaining Trust records
  • Bringing the Trust property under the control of the trustees
  • Being acquainted with the nature and circumstances of the Trust
  • Obeying the directions of the Trust deed
  • Acting impartially
  • Investing in authorised investments
  • Keeping accurate accounts, producing Trust documents and information when requested by a Beneficiary.
  • Informing beneficiaries of their position
  • Dealing with Trust compliance i.e., completion of annual tax returns, HM Revenue & Customs’ Trust Registration Service, completion of inheritance tax returns

For a Trust created in lifetime the Settlor can also be a Trustee, which therefore means they can retain some element of control over the Trust assets and decisions relating to the Trust, however, they will still be bound by the terms of the Trust deed.  Whilst anyone over the age of 18 can be appointed as a Trustee, it is often a respected family member or friend who the Settlor will choose.

Frequently a professional Trustee will also be appointed to act alongside the lay Trustees.  This has the advantage that they will be able to guide the other Trustees about the obligations of their role and can also give an unbiased insight into any Trust issues that may arise.

Types of Trust

Bare Trust – this is a type of Trust where the beneficiary is absolutely entitled to the Trust assets and income with the Trustees holding the assets purely as nominees.

Interest in Possession Trust also known as a Life Interest Trust – this is a type of Trust where one or more Beneficiaries – known as the Life Tenant – has a right to be paid the Trust income for the whole of their lifetime, with the underlying capital assets passing to different Beneficiaries.

Discretionary Trust – this is the most flexible type of Trust.  The Trustees can decide which of the Beneficiaries are to receive any of the Trust income or capital, and the extent of that benefit and when they will benefit.  Beneficiaries do not have to be treated equally and the amount they receive is purely at the discretion of the trustees.  Trustees can also actively choose not to make any Trust distributions.

Summary

Perhaps the most straightforward way to think of a Trust is that it is like a basket.  The Settlor provides the basket; puts various assets into the basket; and then passes the basket on to the Trustees for them to look after.  The type of Trust will determine when the Trustees will be able to take assets out of the basket and pass them to the beneficiaries, and also what parts and how much of the assets the Beneficiaries are entitled to.

Hopefully, this has provided a useful overview of how Trusts work.  As always, if you are thinking of using a trust in connection with estate planning you should seek advice tailored to your personal circumstances.  If you would like any further details, please do not hesitate to get in touch with our Private Client team.

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