6 minute read
IN DEFENCE OF THE TRUST
Guy Abrahams, Partner, Private Client at leading law firm Forsters, explains why trusts remain a vital wealth planning tool
Trusts have taken a battering over the last ten to fifteen years. Routinely vilified in the media, and treated with suspicion, often unfairly, by the EU, the OECD, and even the UK Government, as vehicles used primarily for money laundering and tax evasion, their many benefits for individuals, families and businesses are frequently overlooked. Tax changes and an increasing regulatory burden have also caused the trust to fall out of favour, at least in the UK.
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TYPES OF TRUSTS
Many trusts are bare trusts, i.e. under which the beneficiaries are the economic owners but for various reasons it is better or necessary to have the assets in the name of trustees. However, there are more complex trusts which can provide a convenient and sophisticated means of holding and managing property for the benefit of others.
Life interest trusts
Life interest (or interest in possession) trusts are those under which assets are held by the trustees for the benefit of one or more individuals, or "life tenants", during their lifetime. The life tenant is entitled to all or a share of the income throughout their life and the trustees have power to transfer capital to them. Who is entitled after the death of the life tenant will depend on the terms of the trust.
Discretionary trusts
Discretionary trusts are the most flexible type of trust. The trustees hold the assets for a specified class of beneficiaries, none of whom has a prescribed interest in the trust fund. Instead, the trustees have discretion over whether, when and to whom (among the beneficial class) they will distribute income and capital.
THE WAR ON TRUSTS
Prior to 2006, certain types of trust were treated favourably, or at least benignly, for inheritance tax (IHT) purposes. These included a special trust for those under 25: the accumulation and maintenance (A&M) trust. Assets in a life interest trust were treated as part of the life tenant's estate for IHT purposes, and so subject to tax only the death of the life tenant.
In 2006, the entire IHT regime for trusts changed. A&M trusts could no longer be created. Any new life interest trusts were taxed under the so-called 'relevant property regime', which previously applied only to discretionary trusts. That regime imposes a 20% charge on assets transferred into the trust (for any value over the settlor's available nil rate band, which is currently £325k), ten-yearly charges of up to 6% of the trust fund, and also exit charges when funds are distributed to beneficiaries.
The swingeing changes arose as a result of the Government's suspicion that trusts were simply being used for tax avoidance purposes, without any understanding of the protective benefits of A&M trusts particularly, and the flexibility for succession planning provided by other trusts, appreciated by people at all wealth levels.
Lobbying resulted in concessions being made for trusts arising on death for bereaved minors and young people up to 25, and life interest trusts created by Will.
No concessions were made for trusts created in the settlor's lifetime, with the result that lifetime trusts began
to fall out of favour with families in the UK who did not wish to incur a 20% tax charge to create a trust for their children or grandchildren.
The popularity of trusts has been further undermined by subsequent regulatory changes, with the introduction in the UK of the trusts registration service (TRS) in 2017 to comply with the European Union's Fourth Money Laundering Directive (4MLD). The scope of the requirement to register on the TRS will increase in March 2022, following implementation of the EU's fifth money laundering directive (5MLD) in January 2020. This is still under consultation, and further details should be available soon.
FAMILY INVESTMENT COMPANIES
With the decrease in popularity of the trust, the family investment company (FIC) has become a popular alternative.
The shareholders and directors of a FIC are generally family members. If appropriate, non-voting, or preference shares, may be given to some or all of the children so parents may control their children's access to wealth until they reach maturity.
FICs have not (to date) been subject to the same level of suspicion or scrutiny as trusts and the applicable tax regime is relatively benign. They are liable to corporation tax (currently 19%) rather than income tax (up to 45% for trustees) and capital gains tax (18% or 28%). However, HMRC are understood to be taking an increased interest in FICs, and it is conceivable that their tax advantages may be reduced in time.
From a succession planning perspective, FICs are more of a blunt instrument than trusts as it is more difficult to take account of the differing circumstances of family members. This can be mitigated to some extent by issuing different classes of shares to family members. A well-drafted set of articles and a detailed shareholders' agreement can also enable directors of the company to more finely tune their responses to different family scenarios. Where appropriate, an overarching family charter or constitution, can provide a complete family governance structure even without the additional benefits and flexibility offered by a trust.
However, the flexibility and protection afforded by a discretionary trust can be used in the context of a FIC. For example, the voting shares (which may, in themselves, be of little value) can be held in a discretionary trust, meaning that the often important division between benefit and control is preserved.
THE FUTURE OF TRUSTS
Even with the unparalleled level of trust regulation now in place, the stigma of tax avoidance, evasion and money laundering persists in many quarters.
However, no other wealth-holding vehicle matches the flexibility of the trust for dealing with changes in circumstances. New beneficiaries can be added and others excluded in ways that are, if not impossible, then at least cumbersome within a corporate structure. Capital can be released to one beneficiary, for school or university fees, or to purchase a property, without the need for others to receive identical distributions. Assets are less exposed to the predations of divorce and other life events.
With all their advantages for succession planning, it remains the case that trusts, in combination with FICs or otherwise, should be regarded as a vital tool in any wealth advisor's armoury.
About Guy Abrahams, Partner, Private Client, Forsters Guy's clients include entrepreneurs, international families, private charities and the owners of landed estates. He often acts as executor or as a trustee of family settlements. His advice for clients based in the UK mainly concerns how to manage the transfer of assets from one generation to the next, often using trusts or corporate vehicles to mitigate capital taxes. He has extensive experience in the use of tax reliefs for businesses. His advice for international clients includes pre-arrival planning, and the use of holding structures to protect assets and to prevent unnecessary exposure to tax in the UK. Guy trained at Wedlake Bell and moved to Forsters in 2009. He was made a partner in 2017.
