Trusts and their role in wealth planning

19 Jul 2022

Woman working on laptop

A trust is a common law construct that arises in many different circumstances, typically wherever there is a separation of legal title and beneficial ownership. There are many kinds of trust, and some naturally arise by the operation of the law, but in relation to wealth planning we almost always deal with ‘express trusts’.

An express trust is a legal document (‘the trust deed’) via which a person who creates the trust (known as the ‘settlor’) transfers the legal interest in assets to other persons (known as ‘trustees’) who hold them for the benefit of certain nominated persons (known as ‘beneficiaries’).

A trusteeship carries a high level of responsibility as there is a duty to manage the income and capital of the trust for the ultimate benefit of the beneficiaries, guided by the trust deed, trust law and any letter of wishes written by the settlor.

Trusts can be created both during lifetime and on death and can be located in the UK or overseas. Non-UK trusts can have very significant tax advantages for individuals who are not domiciled in the UK, but this is not something covered here.

Why set up a trust?

Although often considered to be a tool for the very wealthy, there are actually many reasons to establish an express trust regardless of your level of wealth. These include maintaining control of assets, asset protection and tax planning.

Some examples of possible scenarios are:

  • For asset protection – where the intention is for the asset to be retained within the family, such as a family estate or a family business.
  • To preserve family wealth – for example second marriages, where it could otherwise result in assets passing to totally unconnected people.
  • To manage assets – when somebody is unable to handle their own financial affairs, for example a child or young adult who is not yet managing their affairs responsibly or somebody who is mentally ill or has addiction problems.
  • To provide a degree of confidentiality to the ownership of assets – as a result of a general concern for privacy, to limit risk of extortion or kidnapping or to prevent family members from knowing the wealth they are due to inherit to ensure they work hard and develop a responsible attitude to finances.

Transfer into trust

The March 2006 budget made key changes to the inheritance taxation of trusts, with only a few exceptions. One key change was that the creation of a trust within the settlor’s lifetime now falls within the relevant property tax regime, resulting in a lifetime chargeable transfer by the settlor which is subject to inheritance tax (IHT).

In summary, on a lifetime transfer into a trust, an IHT charge arises at a rate of 20% on settlements in excess of the settlor’s available nil rate band, reliefs and annual exemptions. The current nil rate band is £325,000, the annual allowance is £3,000 (unused allowance for the prior year can also be available) and Agricultural Property Relief (APR) and Business Property Relief (BPR) may be available to reduce the value being taxed.

For the trust itself, IHT charges arise when assets exit the trust and on each 10-year anniversary at a maximum rate of 6%.

The gift by the settlor into trust is treated as a disposal at market value and is subject to capital gains tax; it may however be possible to holdover this gain.

Are trusts still tax efficient?

Despite the 2006 change in taxation, it is still possible, even with very simple tax planning, for considerable IHT savings to be made.

If an individual settled assets into a trust up to the value of the nil rate band and annual allowance every seven years, for example:

  • Where an individual first settles into a trust at the age of 40 and continues to do so every seven years by the age of 89, based on current thresholds, this would be six nil rate bands, plus seven years to be removed from the estate, and up to 12 annual exemptions, totalling a reduction in their estate of £1,986,000, before any growth. At the current rate of 40%, the IHT savings on death would be up to £794,400.

In addition to this, gifts meeting the ‘gifts out of surplus income’ criteria are immediately exempt from IHT and could also be settled into a trust, reducing the value of the chargeable estate, for example:

  • Where an individual has surplus income of £50,000 per annum, if this was gifted into a trust over 10 years, then this would be £500,000 removed from their estate. At a current rate of 40%, there would be an IHT saving on death of £200,000.

The residence nil rate band is available for deaths after 6 April 2017 and now provides IHT relief on up to £175,000 of value of the family home. As a result, the combined nil rate band plus residence nil rate band for a married couple/civil partnership is up to £1 million. Any unused allowances on the death of the first spouse are transferrable for use on the surviving spouses’ death. However, the residence nil rate band is tapered where an estate exceeds £2 million by £1 for every £2. It is possible to use a trust to ensure the estate for the surviving spouse is below the £2 million threshold, and in doing so the residence nil rate band is available, for example:

  • Where the surviving spouse’s estate is in excess of £2 million, if a gift into the trust is made to reduce the estate to £2 million, and as a result the combined residential nil rate band allowance is available. Two residence nil rate bands would be £350,000, therefore at the current rate of 40% would be an IHT saving of £140,000.

Interestingly, this taper also opens up opportunities for death bed planning, as although gifts within seven years of death are included in calculating the IHT for an estate, they are excluded when calculating the taper.

Trust Registration Service

HM Revenue & Customs’ (HMRC’s) Trust Registration Service (TRS) was initially introduced in 2017 for all taxable trusts and was subsequently updated to include all trusts.

Non-taxpaying trusts that have not previously registered must do so by 1 September 2022. From this date, all new trusts required to register (both tax-paying and non-taxpaying) must do so within 90 days of creation. Since 1 September 2021, any changes to a trust must be reported online using the TRS within 90 days. You can find out more regarding the extension to scope of the TRS here.

Who should register?

  1. All trusts with a UK tax liability, whether UK or offshore resident.
  2. All express UK trusts, unless covered by one or more of the exclusions (see here).
  3. Non-UK resident trusts that have a business relationship with an obligated entity in the UK, and at least one UK resident trustee.
  4. Non-UK resident trusts which acquire UK real estate.

Please note that any trusts in existence on 6 October 2020 will need registering, even if they have subsequently been terminated.

There are a number of exclusions from the requirement to register, but unless specifically excluded, the trust must be registered.

If you would like more information on trusts and how they could work for you and your family, please get in touch with your usual Saffery contact, or speak to Collette Parry.

Contact Us

Collette Parry
Director, Bournemouth

Key experience

Collette specialises in providing advice to high net worth clients ranging from individuals to landed estates in relation to their...