Fiduciary structures can be used to help clients achieve a wide range of objectives, such as to manage and enhance wealth, protect it from adverse political and economic conditions, ensure that specific succession plans are achieved, or a combination of any of these aims. We outline below how some of the more commonly employed structures work.
The concept of a trust as an estate planning tool dates back to the Middle Ages and, indeed, similar concepts can be found as far back as Roman times. Today, trusts have evolved into a flexible framework used by high net worth families to meet their international estate planning needs, protect family wealth for future generations and facilitate family governance.
It is essentially a legal arrangement between a donor (the ‘settlor’) who transfers legal title of a portion of their assets (the ‘trust fund’) to a person or corporate body (the ‘trustee’) to be held and used for the benefit of one or more persons (the ‘beneficiaries’). The terms of the trust are set out in a legally binding document (the ‘trust deed’), which defines the powers of the trustee (and other parties) and how the trust fund is to be administered.
Although the trustee legally owns the assets, the benefit of them is reserved to the beneficiaries, which is enforceable in law by the beneficiaries.
The settlor might also decide to appoint a watchdog (the ‘protector’), who has supervisory or protective powers to ensure that the trustee exercises its administrative and dispositive powers appropriately, and that it gives proper weight to the settlor’s wishes. There is no requirement for a trust to have a protector but some settlors find the idea appealing because it enables them to retain a certain amount of supervision over the trust.
There are several different types of trust, each with different characteristics:
Bare trusts (also referred to as ‘simple trusts’ or ‘nominee arrangements’) exist where a trustee simply holds property for someone else of full age and mental capacity. The trustee normally has no active powers other than to act on the instruction of the beneficiary for whom they act. One obvious example of a bare trust is the administration of an estate of a deceased person, when the executors hold the residuary property for the beneficiaries absolutely.
This type of trust is the most frequently used, affording the highest degree of asset protection and flexibility in estate planning. The settlor gifts the assets to the trustee absolutely and (often) irrevocably, to be held on trust. The trustee has wide-ranging decision making powers with regards to, amongst other things, how the trust fund is invested, which third party agents it employs (eg investment managers) and when and how much is distributed to beneficiaries.
In order for the trustee to utilise its powers effectively, it is important for the trustee to maintain communication with the settlor and beneficiaries, to understand their current circumstances and how these might change in the future.
Fixed interest trust/ interest in possession trust
Sharing many of the features of the discretionary trust, a fixed interest trust differs insofar that the deed sets out distribution of assets in a pre-determined manner (rather than at the discretion of the trustee). Trust income and/or capital can be specified, although commonly it is a requirement to pay out the income generated by the trust fund to the settlor (or other beneficiary) annually, leaving the capital for the beneficiaries remaining (the ‘remaindermen’) after the settlor’s lifetime.
Reserved powers trust
Reserved powers trusts (RPTs) enable a settlor to retain a degree of control over the trust fund by reserving for themselves (or assign to a trusted adviser) certain powers, which will be defined in the trust deed. Such reserved powers might include the investment powers, the power to revoke (cancel) the trust and the power to appoint or exclude beneficiaries. Frequently the settlor will be the sole beneficiary of an RPT during their lifetime.
Whilst the ability to maintain a degree of control might be appealing to a settlor, it is important to ensure that careful consideration goes in to the extent of those powers, in order to ensure that a trust is validly formed and that there are no adverse tax consequences for the settlor. Generally, the greater the powers reserved to the settlor, the less protection the structure affords the settlor in terms of asset protection, tax efficiency and estate planning flexibility.
As its name suggests, a purpose trust is created for a specific purpose, examples of which are to hold the shares of a private trust company, to own trading companies or for charitable purposes. The nature of the trust itself may be discretionary, fixed interest or reserved powers.
Purpose trusts can be created without any specific beneficiaries, which means that an independent third-party (an ‘enforcer’) is needed to provide oversight and enforce the purpose of the trust.
Private Trust Company
For ultra-high net worth families, Private Trust Companies (PTCs) have become popular as an estate planning tool, enabling families to maintain a degree of control over the trust assets.
A PTC is simply a company established to act as trustee over a trust or family group of trusts. The board of the PTC will typically be made up of members of the beneficiary family, family advisers and professional trustees. The professional trustees will ensure that the fiduciary duties of a trustee are fulfilled, perform the day-to-day administration and maintain the PTC in good standing.
Additional benefits of a PTC are that:
- It is easily transferable – alternative service providers can be appointed without the need to change the trustee itself;
- It promotes dynastic estate planning and promotes family values by enabling younger generations to join the PTC board in the future; and
- It can be ‘branded’ to be consistent with a family’s wider business interests.
When appointing directors to the board of a PTC it is important to consider where they are tax resident and what their relationship is to the settlor, as both factors can have negative tax implications for the PTC structure and the settlor.
Foundations are typically favoured by families in civil law jurisdictions, where the trust concept of separate legal ownership and beneficial ownership of assets is often not recognised. They offer the same estate planning and dynastic structuring benefits as trusts but, unlike a trust, have legal personality (as does a company).
A foundation is governed by its council, which would include a qualified person (a professional fiduciary service provider based in the country of incorporation of the foundation) to guide the council together with family members and advisers. Care needs to be taken if the economic contributor of assets (the ‘founder’) wishes to be a council member, as this might have negative tax connotations.
In addition to the council, a guardian is appointed to oversee the activities of the council and may be required to consent to certain decisions.
The governing documents of a foundation are its charter and regulations. The charter is a public document, setting out the name, objectives and what happens to the asset on the winding up of the foundation. The regulations set out how the foundation is managed and administered, including how the council members are appointed and removed.
Companies have a legal personality, which means that they can own assets, enter into contracts, sue and be sued in their own right. The benefit of this is that they afford the shareholders limited liability from claims brought by creditors and litigants.
Used on their own, companies can be useful vehicles for consolidating assets. As part of a trust structure they can be used to ring-fence different asset classes, such as chattels, planes, yachts, intellectual property, real estate, private equity and investment portfolios.
Family investment companies
A family investment company (FIC) is a bespoke corporate vehicle which can be used as an alternative to a family trust. It is a private company whose shareholders are family members. It enables parents to retain control over assets whilst accumulating wealth in a tax efficient manner and facilitates future succession planning.
The parents setting up the FIC will usually provide funds by way of loan or by subscribing for preference shares, which enables them to extract the funds at a later date. The parents also subscribe for voting shares, which give them control of the company at shareholder and board level. The parents could also subscribe for a class (or classes) of non-voting shares, which they could then choose to give to their children, preferably before significant value accrues to those shares.
A partnership is essentially an agreement between two or more individuals to fulfil a purpose (usually business related). It is governed by a partnership agreement, which defines how the business is to be conducted and what the rights and obligations of each partner are.
A traditional partnership does not offer limited liability – each partner is jointly and severally liable for the debts of the partnership. More recently, Limited Liability Partnerships have evolved, which afford the partners limited liability in a similar manner to a company. In some jurisdictions, such as Scotland, partnerships can elect to have legal personality, which again separates liability from the partners.
A partnership is usually transparent for tax purposes, so profits and gains are attributed to each individual partner in accordance with the terms of the partnership agreement.
The tax treatment of an entity will depend upon the structure and the residence status. Professsional advice should be sought when creating such entities to ensure all parties involved are fully aware of the tax implications.
Having a larger amount of control over a fiduciary structure may lead to having a lower amount of protection. For some clients, a trust which provides them with certain powers and control may nevertheless be of comfort.
Before setting up any structure it is important to understand your specific requirements, to ensure that you create a framework that is suitable for you and your family.
For advice regarding any of the issues raised here, please get in touch with your usual Saffery Champness partner or E: [email protected]
This factsheet is based on law and HMRC practice at 1 April 2018.