There are many reasons why a person making a will (the testator) may wish to incorporate a trust, including:
- to protect young or other vulnerable beneficiaries
- to ensure that assets are safeguarded within the family
- to maximise tax reliefs
There are three main types of trust that are commonly included in wills.
This is a simple type of trust, where trustees manage the trust assets until the beneficiary reaches the age of 18, at which point the assets belong to the beneficiary outright and the trust ends.
Here, the trustees have wide discretion as to when and how to make payments from the trust fund. The testator names a range of beneficiaries who can potentially benefit from the trust, but the trustees decide who actually benefits. They will usually be guided by the testator’s letter of wishes, but this is not legally binding.
The trustees therefore have great flexibility, so can take into account the situation at the testator’s death, such as the beneficiaries’ circumstances and the relevant tax rules – which may be different from when the will was made – and adapt the way that the trust is used accordingly. For example, the trustees can ensure that any distributions from the trust do not prejudice a beneficiary’s entitlement to means-tested benefits.
Discretionary trusts can also be useful in maximising tax exemptions and reliefs, including ensuring that couples who have been widowed can benefit from more than two nil-rate bands, and crystallising inheritance tax reliefs, such as business property relief and agricultural property relief, which may not apply by the time the survivor dies, thereby saving tax.
Life interest trust
With this type of trust (also known as an interest in possession trust), a beneficiary (the life tenant) has the right to receive the income from the trust assets. If the trust contains cash and shares, this will be the interest and dividends, and if the trust contains a residential property, this will entitle them to occupy the property rent-free, and receive the rents if it is let. After the life tenant dies (or an earlier date, as may be stipulated), the trust assets pass to other named beneficiaries.
This type of will is popular with couples, especially those with children from previous relationships, who want to provide for their spouse or partner, but ensure that their assets ultimately pass to their children. Without the trust, there is a risk that the survivor may remarry, give away assets, or make a new will in which the children will not benefit from the assets. The trust can also help to preserve assets if the survivor requires long-term care.
Property protection trusts
Property protection trusts are a type of life interest trust where the only asset within the trust is the deceased testator’s interest in their home. The couple must own the property as tenants in common, rather than joint tenants, to enable the share of the property belonging to the first to die to pass into the trust, rather than passing automatically to the survivor.
This type of trust appeals to clients who want to ensure that their spouse or partner is secure for the rest of their life (as they have the right to occupy the property, and usually the rest of the estate will be left to them outright), but have the assurance that at least their share of the property will be protected to ultimately pass to their children.
As well as safeguarding the children’s inheritance in the event of the survivor remarrying, giving assets away or making a new will, this type of will shields the deceased’s share of the home from being assessed as capital available to pay for the survivor’s care fees, as it is not owned outright by the survivor. The gift of the property interest to the trust cannot be clawed back by the local authority under the deprivation of capital rules, as could be the case if a person gives away their property (either outright to children or to a trust) while they are alive.
Using a trust offers the survivor more protection than leaving the share in the property to the children outright, as if any of the children become bankrupt, divorced or die while the survivor is alive, a sale of the property could be forced to make the child’s share of the property available to creditors, the court or executors. In addition, there will not be any capital gains tax on the share of the property held by the trust, as the trustees can claim principal private residence relief as a result of the surviving partner’s right to occupy, which would not be available if it was owned by a child who did not occupy it.
Property protection trusts can incorporate flexible powers, for example, a power to give capital from the trust to the survivor, if required. It is also possible for the survivor to move house.
With the cost of long-term care and life expectancy continuing to rise, people are increasingly looking to property protection trusts to protect their homes for future generations.
Originally written for The Gazette