Understanding Trusts in the UK

Published by UK Property Accountants
Published Date: August 21, 2023 , Updated Date: April 17, 2024
Categories: Trusts in the UK

In the realm of financial management and legacy planning, trusts play a pivotal role in the United Kingdom. A trust is a legal arrangement that allows individuals and businesses to protect and manage their assets while ensuring their distribution to beneficiaries in accordance with their wishes.

The concept of trusts has a rich history and continues to be a versatile and effective tool for wealth preservation, charitable endeavours, and tax planning. In this article, we will delve into the fundamentals of trusts in the UK and explore their types.

Parties to a Trust

A trust is essentially a legal entity created to hold assets on behalf of beneficiaries. It involves three main parties: the settlor, the trustee, and the beneficiaries The terms and conditions of a trust are documented in a legally binding contract known as the trust deed.

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The Settlor

In every trust, there is a vital person known as the settlor, who assumes the role of the creator of the trust. The settlor is the individual responsible for transferring assets to the trustees, forming the foundation of the trust arrangement. A trust may have multiple settlors.

The Trustee

When a settlor establishes a trust, they transfer assets to the trustees, resulting in legal ownership passing from the settlor to the trustees. Any mentally capable individual can act as a trustee. The settlor will specify in the trust deed who shall be the Trustee of the trust. They are obligated to utilise the assets for the exclusive benefit of the beneficiaries.

Beneficiaries

The beneficiaries, on the other hand, have the right to enjoy the income generated by the trust assets or, in some cases, even use the assets themselves. It is essential to define the beneficiaries clearly in the trust deed, specifying their entitlements and the conditions under which they can benefit from the trust.

Types of Trusts

In the UK, there are several types of trusts, each designed to fulfil specific purposes. Let us explore some common types below:

image of many people discussing types of trusts

1. Discretionary Trusts

A discretionary trust is one of the most preferable trusts which enables Trustees to use and distribute the income and capital of the trust entirely at their discretion.

The beneficiaries become entitled to receive distributions from the trust only when the trustees exercise their discretionary powers and decide to allocate the income or assets to them. Until the trustees make such a decision, the beneficiaries do not have a guaranteed right to the trust's benefits.

2. Interest in Possession (IIP) Trust

An interest in possession trust is a type of trust arrangement where the beneficiaries have a right to the income generated by the trust's assets. Unlike discretionary trusts, where the trustees have discretion over income and asset distribution, the trustees cannot hold any income and keep it within the trust and must pay out any income to the nominated beneficiaries.

In IIP trust, the life tenant (the main beneficiary) enjoys the right to receive income for a specific period, often lasting their lifetime. Once the life tenant's entitlement to income concludes, the trust's capital passes to another beneficiary known as the "remainderman" or "reversionary beneficiary”.

3. Bare Trust

One of the simplest types of trust arrangement is a ‘Bare Trust’. In a bare trust, the assets are legally owned by a trustee, but the beneficiary retains an absolute entitlement to both the trust's capital and income. Once the beneficiary reaches the age of 18 (in England and Wales) or 16 (in Scotland), they have the unrestricted right to claim the assets.

Bare trusts are commonly employed for transferring assets to young individuals, with the trustees taking care of the assets until the beneficiary reaches the appropriate age.

4. Mixed Trust

Mixed trusts are a combination of different types of trusts within a single trust arrangement. In a mixed trust, the trust's assets are divided into distinct parts or funds, each governed by different trust provisions.

For example, some assets within the trust may be set aside as an interest in possession trust. Concurrently, other assets in the mixed trust may be treated as discretionary trust. The primary reason for creating a mixed trust is to provide greater flexibility in managing the trust's assets and addressing the diverse needs of the beneficiaries.

5. Charitable Trust

You have the option to create your own family charity through a Charitable Trust and this can be established either during your lifetime or as part of your Will.

By setting up a Charitable Trust, gifts made to it are exempt from capital gains tax and inheritance tax. Additionally, the trust's generated income is generally not subject to tax. It's important to note that the trust's purpose must be solely for charitable objectives.

6. Settlor-Interested Trusts

Settlor-Interested Trusts are trusts in which the settlor, or the settlor's spouse or civil partner, retains the potential to benefit from the trust in some way. The settlor may have an interest in the trust assets, such as the right to receive income, use of the trust property, or other benefits during their lifetime or for a specific period.

The inclusion of the settlor or their spouse or civil partner as potential beneficiaries introduces certain complexities and tax implications, as the trust's assets are not entirely outside of their reach or control. These trusts are subject to specific tax rules and anti-avoidance measures to prevent abuse of tax planning.

7. Trusts for Vulnerable Beneficiaries and Disabled            Persons

Trusts for Vulnerable Beneficiaries are established to provide support and financial protection for individuals who are physically or mentally disabled, or for minors under the age of 18 who have lost a parent.

These trusts are designed to ensure that vulnerable beneficiaries receive appropriate care, financial assistance, and long-term support. Special tax rules are applicable for these trusts.

Tax Implications for the Trusts in UK

Tax Implications for the Trusts in UK

Tax implications for trusts in the UK can vary depending on the type of trust, the assets held within the trust, the beneficiaries, and the specific transactions or events involving the trust.

It's important to note that tax laws and regulations can change, so it's always a good idea to consult with a qualified tax professional or legal advisor to get the most up-to-date and accurate information.

How to put a Property in Trust?

Creating a trust and transferring property into it involves several steps. It's important to note that creating a trust is a legal process, and you should consult with a qualified solicitor to ensure that you follow all necessary legal requirements and properly tailor the trust to your specific needs. Here is a general outline of the steps involved in putting property into a trust:

  •  Choose the type of trust (e.g., revocable, irrevocable).
  • Consult an attorney for legal guidance.
  • Draft the trust document with an attorney.
  • Identify the property/assets to transfer to the trust.
  • Transfer ownership of assets to the trust (retitle property).
  • Update beneficiary designations if needed (insurance, retirement).
  • Execute the trust document according to legal requirements.
  • Fund the trust by completing asset transfers.
  • Manage the trust assets according to the trust terms.
  • Periodically review and update the trust as needed.

Summary

Trusts represent a powerful and adaptable tool in the UK's financial landscape. By understanding the fundamentals of trusts and their various applications, individuals and families can secure their financial future while leaving a legacy for their loved ones and society at large.

Nevertheless, the creation and management of trusts can be complex, requiring expert legal and financial advice to ensure compliance with regulations and optimise the benefits they provide.

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