What Is A Will Trust?
Trusts are legal entities that enable individuals to derive benefits from assets without assuming legal ownership. A trust is established within your will to safeguard the property you intend to pass down to your family.
The trust is established by you, and individuals are designated to oversee it as the ‘trustee’ on behalf of the ‘beneficiaries’, who are the recipients of the trust’s assets.
Creating a trust provides a level of control over assets that would not be possible if they were simply given away. While tax advantages can be a consideration, it is important to remember that they should not be the primary motivation for establishing one. There are situations where placing assets into trust could result in higher tax payments.
Trusts can be complex structures with potential tax consequences, so it is advisable to consult with a legal professional before establishing one.
There are two primary types of trust that you can opt for a will trust, formed after your passing, or a lifetime trust, which you create while you’re alive. We discuss both advantages and disadvantages of both.
Leaving A Property In A Will Trust
Unlike a lifetime trust, a will trust only becomes active upon your death. Couples often use trusts to handle the family home if they own it as ‘tenants in common’. The partners have decided to establish a trust as an alternative to directly leaving their share to each other. This trust is established when the first partner passes away.
Until recently, more intricate will trusts were a widely used strategy for minimising inheritance tax (IHT). A couple who may be subject to Inheritance Tax (IHT) can divide their estate equally into two parts, both of which are below the threshold for tax exemption.
Since 2007, married couples and civil partners have been given the opportunity to transfer their unused IHT allowance to each other, subject to specific conditions. As a result, this specific form of trust is no longer necessary for couples when it comes to inheritance tax. However, it can still be used to potentially safeguard the deceased spouse’s share from care home assessments.
Will Trusts & Long-Term Care
The use of a will trust in relation to the family home provides certain benefits for the surviving spouse. In the unfortunate event of the partner’s passing, the surviving spouse is entitled to a ‘life interest’ in the house. This means they have the right to reside in the property and receive income from any potential sale proceeds, should the need to sell arise. When it comes to paying for care, the local authority will only assess your share of the home’s value.
Typically, the portion owned by the trust is not included in the count. This method helps safeguard against the expenses of care home facilities. According to government regulations (Charging for Residential Accommodation Guide), this arrangement is unlikely to be considered as ‘deliberate deprivation’. It implies that you have intentionally divided your assets to evade paying substantial care-home fees.
Will Trusts & Inheritance
One more reason to consider establishing a will trust is to prevent the occurrence of ‘sideways disinheritance’. When the first partner passes away, their children from the marriage may have a legitimate expectation of inheriting a portion of the family estate once both spouses have passed. There is a potential concern if the surviving partner decides to remarry without making provisions for their children in a new will. In such a case, there is a possibility that their new spouse may inherit everything.
One way to prevent this scenario is by establishing a life interest trust in your Will. This arrangement ensures that your children inherit your portion of the family home, while still granting your spouse the right to continue residing in the property.
It is advisable to consult with a legal professional before proceeding with this course of action.
What Is A Lifetime Trust?
Lifetime trusts are commonly referred to as property protection trusts or asset protection trusts. Lifetime trusts are typically established immediately, unlike will trusts that only come into effect upon your death. As an illustration, your home can be transferred to the trust, enabling you to continue residing in it.
Typically, a lifetime trust cannot be utilised to exclude your home from the local authority’s asset calculations for care home expenses. It’s important for individuals contemplating the establishment of a lifetime trust to be aware that local authorities may view this arrangement as ‘deliberate deprivation of assets’. If this is the situation, they can evaluate you as though you were still the owner of the property (and decline to provide financial support for your care).
Lifetime Trusts & Tax
It is important to carefully consider the tax treatment of lifetime trusts. When the house is gifted to the trust, it may be subject to inheritance tax if its value exceeds the current nil-rate band of £325,000.
The transfer of property to a lifetime trust can result in a 20% charge on any balance over £325,000, including gifts made in the previous seven years. Additionally, the trustees are required to submit tax accounts to HMRC. The individual might be subject to additional taxes every decade, amounting to 6% of the value exceeding £325,000. Additionally, they would need to pay income tax on any trust payments and face charges on assets that are removed from the trust.
When trustees decide to sell assets within a trust or transfer them to a beneficiary, it’s important to consider the potential impact of capital gains tax. If a trust is liquidated and all assets are transferred to a beneficiary, these may also be applicable. The calculation of capital gains tax for individuals is similar, but there are some differences when it comes to the annual allowance. In the 2023-24 tax year, the allowance is £6,000, which decreases to £3,000 in 2024-25. The exception is if the trust has been set up for someone disabled.
It is important to note that registering all trusts created with HMRC is a necessary step to consider. Whether the trust is established during your lifetime or through your will as part of your estate’s administration, its timing is crucial. It’s crucial to seek advice before establishing a lifetime trust due to the potential significant tax implications. It becomes even more complicated when the beneficiaries of the trust are not UK residents.
Will Trusts and Lifetime Trusts can be structured in one of two ways.
- Fixed Interest – The first beneficiary has an absolute right to reside in the house and receive the income generated from any trust investments.
- Discretionary – The trustees have a combination of potential beneficiaries and are given the authority to determine how to distribute benefits among them.
Typically, a discretionary trust includes a letter of wishes for the trustees to take into account. This letter may grant a specific beneficiary the authority to reside in the house or receive income from investments. Fixed-interest trusts and discretionary trusts have different tax treatments.
As you can see, Wills can become very complicated. This is why we always recommend using a professional to prepare your Will. Click here to view our article covering why you should use a professional.