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Challenging times for trusts

News article

Publication date:

02 November 2021

Last updated:

05 November 2021

Author(s):

Barbara Gardener

On 14 October 2021, HMRC published its latest statistics on trusts and they show that the total number of trusts and estates paying tax fell by 6% in the tax year 2019/20 compared to the previous year. 

 

This represents a sixth year of consecutive declines, continuing the apparent long-term downward trend. There were 225,000 trusts and estates in the UK in the tax year ending 2004, which has fallen to 145,000 in the tax year ending 2020. This corresponds to a drop of approximately 34% over the past 15 years.

How significant are these numbers and are the attractions and benefits of trusts on the wane?

The numbers and trends behind the statistics

Well, you know what they say about statistics. To start with, the numbers quoted only reflect trusts registered for self-assessment and these represent only a proportion of all trusts. Trusts which do not need to self-assess, because, for example, they do not receive any taxable income and have no taxable gains (including all those invested in life assurance bonds and without any chargeable event gains taxed on the trustees to report) will not be included. Neither will be the interest in possession trusts where all income is mandated to the income beneficiary, and, of course, no bare trusts need to self-assess. This may largely explain why there were only 47,500 registered interest in possession trusts in the tax year ending 2020 and only around 84,500 trusts paying income tax at the special trust rates, i.e. discretionary trusts and accumulation and maintenance trusts.

Interestingly, though, the total income of trusts and estates was broadly stable over the recent years (£2,980 million in 2019/20), resulting in total income tax in that year of £755 million. The amount of chargeable gains was £3,010 million in the same year, resulting in capital gains tax (CGT) of £605 million (down 17% on the previous year).

As of 31 March 2020, the Trust Registration Service (TRS) had 122,000 registrations, an increase of 12,000 on the previous year. This number is, of course, expected to increase sharply by 1 September 2022, when it becomes mandatory to register all non-excluded express trusts, regardless of whether or not they have tax consequences. So, the statistics for the period after that date will be far more significant. But, even then, given the number of "exclusions", the real number of trusts will always be higher.

The figures for the following year, i.e. tax year 2020/21 are also expected to be higher, sadly due to the pandemic-driven increase in the number of death estates. It is also expected that the total CGT bill will be greater, given that, in anticipation of the possible increases in the CGT rates (yet to materialise), many taxpayers, including trustees, have been realising chargeable gains.

The introduction of compulsory TRS registration for non-taxable trusts, apart from creating a headache for trustees and advisers alike, should hopefully also help focus on the importance of trusts in all areas of estate and financial planning.

So, this month, we will look at the typical estate planning scenarios where trusts need to be considered, and, if so, which ones.

Estate and inheritance tax (IHT) planning

This is, of course, an area where trusts play the most important role and planning needs to be divided into planning on death (will trusts) and lifetime planning (gifts etc.)

Any estate planning exercise needs to start with looking at will provisions. Despite the introduction of the transferable nil rate band (TNRB) and the residence nil rate band (RNRB), especially given the recent growth of property prices, more families will suffer IHT. Indeed, according to HMRC’s latest statistics, IHT receipts for April to September 2021 are nearly £3.1 billion, which is £0.7 billion higher than in the same period a year earlier.

Depending on the circumstances of the family, options to include life interest trusts, discretionary trusts, disabled trusts, bare trusts, 18-25 and TBM (bereaved minors) trusts should always be discussed. There is no one size fits all, as was perhaps the case before the introduction of the TNRB, where, typically, a nil rate band discretionary trust would have been recommended for a married couple or civil partners. Now this is not "automatic" but in many cases it will still be a good option, especially for those who have been widowed and are on a second marriage/civil partnership.

For those with existing wills written before that date, a discussion should take place as to whether such a trust is still the best choice, especially where the main asset is the family home.

For lifetime planning, the choice of trust will depend on the need for access and control. Fortunately, there are plenty of options for setting up a trust which even allows the settlor some access to the funds without adverse IHT consequences, for example a discounted gift trust or a loan trust. If no access is needed, the choice will depend on how flexible the trust should be. However, it should not be assumed that the preferred choice for everybody will be a fully discretionary trust. Despite the obvious advantage of maximum flexibility, not all clients will actually want that much discretion over the trust funds.

Pension planning

Do you need to consider trusts when all you are looking at is pension provision? Oh yes, you do.

Actually, given that for many people, especially those of the baby boomer generation, a considerable proportion of their wealth may be actually sitting in a pension pot, the question of what would happen to this on death is very important, and especially so if the couple are on their second families.

It is often assumed that all the fund should go to the surviving spouse/civil partner, but what if this was at the expense of the children from the first marriage/civil partnership? Similarly, flexi drawdown for the surviving spouse/civil partner may be attractive initially, but, again, what if on the spouse’s/civil partner’s death this goes to that spouse’s/civil partner’s children, to the exclusion of the children of the pension holder? This is where a special form of trust, called a pilot trust, comes in.

Pilot trusts are trusts set up with a small sum, usually £10, as a receptacle to receive larger sums in due course, usually following the death of the settlor. In the context of pension planning, such a trust will be set up and an expression of wishes given to the trustees or administrators of the pension scheme to pay any lump sum death benefit to the trustees of such a trust. Careful advice will be needed and the tax consequences fully considered, and the expression of wishes (sometimes called a "nomination") kept under review (especially ahead of the client reaching age 75) but such a trust would guarantee that the trustees chosen by the client are in control of the distribution of the funds (having been provided with a letter of wishes from the settlor). The suitability of such a trust will, of course, depend on the client’s circumstances but this option should always be discussed.

Asset protection and tax efficient investments for the whole family

If we are just looking at investments, do trusts come into the equation? You bet. Here are some examples where a trust should be considered.

Investing for a specific purpose, say school fees or university fees for a child or grandchild - a trust will ensure that funds will be available for the intended purpose. Of course, the choice of appropriate trust will need to be considered carefully, as some will offer more tax benefits than others. If the beneficiary is certain then an absolute trust will offer a CGT advantage.

Protecting assets for a disabled family member – another situation where a trust is a must. As there are different types of trusts for the disabled, proper advice will always be needed.

Protecting assets intended for a gift to an adult child (e.g. to help with home purchase) from possible marriage breakdown or the ending of a civil partnership – we keep hearing stories where serious disputes result when a couple divorce and their home had been purchased with the help of the bank of mum and dad of one of the couple. The parent providing the funds will not be happy that the ex of their son or daughter walks away with what was intended only for that son or daughter. Ensuring there is proper documentation will usually help, but having a trust would be even safer.

Probate avoidance and continuing control may be another reason why a trust may be recommended, not to mitigate tax but to ensure that funds are immediately available and/or the assets can be dealt with without any probate delay.

Life assurance protection

This is probably one item of financial planning where we don't need to emphasise the importance of trusts to ensure that funds are available quickly when needed and for the person that needs them, following the death of, say, a breadwinner. However, it is surprising how many of such policies are still not written under trust, which, in addition to failing to achieve the immediate objectives mentioned earlier, will also result in the death benefit being potentially subject to IHT at 40% on the death of the client.

And, of course, trusts are just as important when considering business protection plans, albeit different type of trusts, i.e. special "business protection trusts".

Comment

Hopefully, the above summary has provided some food for thought and conclusions that trusts are here to stay. They just need to be used more. Thankfully, no changes to taxation of trusts have been announced in the Autumn Budget, so no additional studies are required for advisers.

 

 

 

Tagged as

This document is believed to be accurate but is not intended as a basis of knowledge upon which advice can be given. Neither the author (personal or corporate), the CII group, local institute or Society, or any of the officers or employees of those organisations accept any responsibility for any loss occasioned to any person acting or refraining from action as a result of the data or opinions included in this material. Opinions expressed are those of the author or authors and not necessarily those of the CII group, local institutes, or Societies.

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