Trusts are a versatile and powerful tool in estate planning, offering various benefits such as asset protection, tax planning, looking after vulnerable beneficiaries and ensuring that your wishes are carried out after your death. Trusts can be created in your Will or during your lifetime and there are several types of trusts available. It can be challenging to determine which one is right for you so in this post, we’ll explore the different types of trusts and their unique features.
What is a Trust?
Simply put, a Trust is a legal relationship whereby a person gives property to another to hold for the benefit of someone else. A Trust is therefore a way of managing assets. Trusts are very common and play a key role in many aspects of everyday life. Many people, often without realising it; will come into contact with a trust in one form or another at some point during their lives. Yet trusts are widely misunderstood and often seen as something just the wealthy need to be concerned with. But trusts are particularly useful when planning how money and assets should pass from one generation to another, especially when family structures are complicated by divorces and second marriages. This; coupled with the growing frequency of marriage breakdowns, an ageing population and rising prosperity; makes trusts an excellent tool for long-term planning to ensure a family’s financial stability and security.
Who's who in a Trust?
There are three parties involved with the creation of a Trust, the Settlor or Testator, the Trustee and the Beneficiary.
The Settlor or Testator (the original owner of the assets and the person setting up the Trust) will transfer their assets to the Trustee (the person or persons trusted to look after the assets) who will be instructed to hold and manage these assets on behalf of the Beneficiary (the person or persons the Settlor or Testator would like to benefit from the assets).
This can be useful when the Settlor or Testator would prefer not to gift their assets outright to the Beneficiary. All the terms, conditions and details are outlined in a Trust Deed or the Will created by the Settlor or Testator. Before a Trust is created steps should be taken to ensure that the Settlor or Testator is mentally capable of making such a decision and fully understands the scope and nature of their assets and the implications of creating a Trust.
Life or Death?
Trusts can be created during your lifetime, in which case you are known as the Settlor or via your Will, which would take place upon your death and in which case you would be referred to as the Testator.
Trusts created in your Will
A testamentary or Will trust is created through a Will and comes into effect only after the death of the testator (the person who made the will). This type of trust allows you to specify how your assets should be managed and distributed after your death.
Key Features:
Creation: Established by the testator’s will and activated upon their death.
Control: Allows the testator to maintain control over how their assets are managed and distributed posthumously.
Management: Trustees manage the assets according to the instructions in the will.
Beneficiaries: Can be set up to benefit specific individuals, such as minor children or dependents, ensuring they receive financial support in a controlled manner.
Advantages:
Delayed Distributions: Useful for providing for minor children or beneficiaries who may need financial guidance.
Tax Benefits: Can offer tax advantages by potentially spreading out inheritance tax liabilities.
Flexibility: Allows for detailed instructions on how and when assets should be distributed.
Disadvantages:
Probate Process: Because it is part of the Will, the assets must go through probate, which can be time-consuming and public.
Inflexibility Before Death: Generally cannot be changed without rewriting the Will.
Trusts created during your lifetime
An inter vivos or lifetime trust, also known as a living trust, is created and becomes effective during the lifetime of the settlor (the person creating the trust). It is designed to manage and protect assets during the settlor’s life and distribute them after death.
Key Features:
Creation: Established and effective while the settlor is still alive.
Control: The settlor can retain control over the trust and its assets or appoint trustees to manage them.
Management: Trustees administer the assets according to the terms of the trust agreement.
Beneficiaries: Can benefit the settlor, family members, or other designated individuals both during the settlor’s life and after their death.
Advantages:
Avoids Probate: Assets in an inter vivos trust bypass the probate process, allowing for quicker and more private distribution.
Flexibility: Can often be amended, altered, or revoked by the settlor during their lifetime.
Continuity: Provides seamless management of assets in case of the settlor’s incapacity or death.
Privacy: The terms of the trust and its assets are not made public, offering greater privacy compared to a will.
Disadvantages:
Initial Setup Costs: Can be more expensive and time-consuming to establish compared to testamentary trusts.
Ongoing Management: Requires ongoing management and administrative duties during the settlor’s lifetime.
Complexity: May be more complex to understand and manage without professional assistance.
Different Types of Trusts
Bare Trusts
A bare trust, also known as a simple trust, holds assets on behalf of a beneficiary who has an absolute right to the capital and income within the trust. The beneficiary can demand that the assets be transferred to them at any time.
Key Features:
The beneficiary has full control over the assets once they reach a certain age (usually 18).
Commonly used for holding assets for minors until they reach adulthood.
The trustee's role is limited to managing the assets until the beneficiary can take control.
Discretionary Trusts
In a discretionary trust, the trustee has the power to decide how the trust income and capital are distributed among the beneficiaries. This type of trust provides flexibility to cater to changing circumstances and needs of the beneficiaries.
Key Features:
The trustee has discretion over the distribution of assets.
Beneficiaries do not have a fixed entitlement.
Can be used to protect assets from creditors or in cases of beneficiaries who may not be financially responsible.
Interest in Possession Trusts
Overview: An interest in possession trust gives a beneficiary the right to receive income from the trust’s assets (such as rental income from a property) during their lifetime. The capital remains intact and passes to another beneficiary after the death of the income beneficiary.
Key Features:
Provides a regular income to the income beneficiary.
The capital is preserved for future beneficiaries.
Often used in family situations, such as providing for a surviving spouse while preserving assets for children.
In addition, see our blog posts: https://www.toucanlaw.co.uk/post/can-i-protect-a-vulnerable-person-using-my-will and https://www.toucanlaw.co.uk/post/safeguarding-and-planning-for-your-children-s-future-appointing-guardians-and-trustees to find our more about trusts for the vulnerable, such as young children or for someone living with addiction or a disability.
Choosing the Right Trust
Selecting the right type of trust depends on your specific circumstances and goals. Factors to consider include:
The purpose of the trust (e.g., asset protection, providing for minors, supporting a spouse).
The needs and circumstances of the beneficiaries.
Tax implications.
The level of control and flexibility desired.
Creating a trust involves complex legal and tax considerations, so it’s essential to seek professional advice to ensure that your trust is set up correctly and aligns with your estate planning objectives. At Toucan Law, we specialise in helping clients navigate the intricacies of trust planning. Contact us today to learn more about how we can assist you in creating a trust that meets your needs and protects your legacy.
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