The best Christmas present for your family: a discretionary trust?


Author: Helena Luckhurst


This article is taken from Helena Luckhurst’s blog The Wealth Lawyer UK.

It’s beginning to look a lot like Christmas out there, as Bing says. Thoughts turn to what gifts to give our family. When it comes to making big gifts to family members, though, in lifetime or on death, still not enough people think of using a trust.

Many people hardly know what a trust is; still less understand what a trust can do for their family. Discretionary trusts (or, to be precise, their trustees) can be taxed without reference to the personal tax positions of the beneficiaries and, if desired, that of the person(s) funding the trust. The fact that trusts are taxable in their own right can be very useful for family tax planning.

Take for example how a discretionary trust can help reduce Stamp Duty Land Tax (SDLT) for younger family members aspiring to own their first home. Say Ruth, a senior family member, leaves assets to Pip, a younger and unmarried family member, outright in her Will and Ruth’s estate includes a ‘dwelling’ (her late mother’s old home in Northumbria). If Pip inherits more than 50% of that property as part of her share of Ruth’s estate, she will pay higher SDLT rates (i.e. the supplementary 3% rate increases across the SDLT bands) on the property that she wants to buy as her first home until she ceases to own that 50% interest. However, if her mother had left her assets on discretionary trusts in her Will instead, Pip would not be saddled with the problem. The discretionary trust would prevent Pip from directly owning any of her mother’s assets for SDLT purposes, even if she is one of the beneficiaries of that trust.

In addition, Pip would be able to take advantage of the Autumn Budget’s changes to the SDLT regime for first time buyers. The relief for first time buyers cannot apply if the purchase would be an SDLT ‘higher rates transaction’, which it would be if Pip had inherited more than 50% of the property. For a first time buyer buying a £500,000 property, the potential SDLT saving if they qualify under the new rules is £5,000. That might just pay for a few of those nice-to-haves in any first home, like a bed and something to sit on.

Perhaps one of the most attractive attributes of discretionary trusts for younger family members is that they allow families to skip a generation (or three) for Inheritance Tax (IHT). If children’s inheritances pass into discretionary trusts, they do not pass onto the child’s IHT ‘balance sheet’. Yet a child can still enjoy direct access to her inheritance in the form of an interest free loan from the trust.

For example, if Ruth’s estate is worth £3 million on death then, even with the transferrable IHT nil rate band, the IHT bill will be £940,000. Her three children each inherit an equal one-third share of her net estate: £686,000 each. If Ruth’s Will provides for the children’s inheritances to pass into trust (one for each child if preferred), the trusts will suffer 6% IHT on each tenth anniversary following Ruth’s death, and this needs to be budgeted for. But that £686,000 will not have another 40% IHT attack on the child’s subsequent death, or a further 40% IHT on the grandchild’s death, and so on. Without a 40% IHT hit every 30 years and with a good investment strategy, attuned to minimising trust taxation through choice of investment, it’s not hard to see how £686,000 could turn into something significantly greater by the time the trust comes to an end, which could be at least 125 years after Ruth’s death.

Trusts have a reputation for being the preserve of the rich. The irony is that they should be used much more by families who want to get richer.

Helena Luckhurst, Partner, Fladgate LLP (hluckhurst@fladgate.com)

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