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What is a trust?

Trusts are a way of managing assets (eg cash, property, shares and land). Trusts are used to handle, control and protect assets and may be set up:

  • when the intended recipient is too young to handle their affairs

  • when the intended recipient is incapacitated and cannot handle thei affairs

  • to pass assets to the intended recipient while the person passing the assets on is still alive

  • under the rules of inheritance if someone dies without a will (in England and Wales)

Example 1: A common use of a trust is to provide a secure way of holding money 'in trust' (a trust fund) for children who are still too young to handle a large inheritance. Funds may be released from this type of trust when children reach the age of 18 (or perhaps another specified age).

How do trusts work?

Trusts are created by a ‘settlor’ who decides on the type and extent of assets (which can involve money, property, land and investments) that should be put into the trust. The settlor must also specify any beneficiaries who stand to gain from the trust (eg their children in Example 1 above). Finally, the settlor has to appoint a ‘trustee’ (or ‘trustees’) to manage the trust.

Example 2: Mary (the settlor) places £10,000 into a bank account (the capital of the trust). Mary specifies that her two children, Michael and Camilla (the beneficiaries), should receive monthly payments of £100 from this bank account. Mary gives her friend Simon (the trustee) authority to use this bank account and asks him to transfer monthly payments from this account to the bank accounts of Michael and Camilla.

What type of trusts are available?

Bare trusts

These are generally used where assets need to be looked after for children. Once the beneficiary reaches the age of 18 (in England and Wales or 16 in Scotland) they have the right to access all income and capital contained in the trust.

Interest in possession trusts (also known as 'liferent trusts' in Scotland)

This type of trust only entitles the beneficiaries (or ‘liferenter’) to any income (after expenses) arising from the assets contained in the trust. Often the assets comprise shares that cannot be sold by the trustees. The beneficiaries do not have any access to the capital, only a right to income.

Discretionary trusts

Trustees have a lot more control over discretionary trusts. Depending on how the trust has been set up, trustees may have discretion over: 

  • any income or capital which is paid out (eg the amounts and how often payments are made)

  • which beneficiaries should receive any payment

  • any conditions imposed upon beneficiaries 

This type of trust is often designed to provide for beneficiaries who might otherwise struggle to manage their financial affairs.

Accumulation trusts

This allows any income which derives from the assets of a trust (eg stock market or investment gains) to be ploughed back into the trust, thereby increasing the value of the capital within the trust. Payments can also be made to beneficiaries.

Settlor-interested trusts

This form of trust is designed to provide an income or payment to the settlor of the trust; the settlor (and their spouse or civil partner) is therefore also the beneficiary. The structure of this type of trust follows a discretionary, accumulation or interest in possession model.

Mixed and non-resident trusts

Elements of different types of trusts can be combined to create a personalised trust which has very specific aims; this is known as a mixed trust. Meanwhile, special non-resident trusts (where the trustees and/or settlor do not reside in the UK for tax purposes) can be used for estate planning purposes.

Tax and trusts

All the different types of trusts have their own specific levels of taxation which generally need to be paid by the trustees or beneficiaries. The main taxes which are payable on trusts are:

  • income tax - paid on any income received by a beneficiary

  • capital gains tax (CGT) - paid on profits of trust-related assets which have increased in value, and

  • inheritance tax (IHT) - paid on transfers of inherited assets into a trust

The rules on tax and trusts are very complicated and you should Ask a lawyer always seek legal advice to find out about your specific situation or requirements.

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