DISCRETIONARY TRUSTSFlexibility and protection
Why would I consider doing a Discretionary Trust?
Having the flexibility to control who inherits, when and how much can be very useful. For example, what might happen where money is left or given to a child who later gets divorced or goes bankrupt? What could happen if a client is estranged from one of their children, and excludes them in their Will but circumstances change later? Is it wise to leave money to somebody who has an addiction to gambling or drugs?
Assets left in a Discretionary Trust are protected in all of the above situations. The inheritance of the child who gets divorced, would not pass to their spouse. The monies intended for the child who later goes bankrupt, would not be lost through bankruptcy.
The future is uncertain. Providing inheritance through a flexible discretionary trust can be far more effective than transferring assets directly to beneficiaries.
What are the benefits?
GREATER FLEXIBILITY
If you are not sure how to distribute assets in your Will, you could instead allow trustees to decide what to do for the best after you have passed away.
One of the beneficiaries may be in greater need than another, or a child may wish for their own children to benefit instead. A discretionary trust can help in these situations.
PROTECT ASSETS
Assets that are held on trust are protected against changes in beneficiaries’ circumstances; ensuring that assets can be kept within the family even if a beneficiary goes bankrupt or gets divorced for example.
REDUCE TAX
As Discretionary Trusts are very flexible, there are many ways that they can be used in the long-term to reduce Income Tax, Inheritance Tax and Capital Gains Tax.
AVOID CHALLENGES
Rather than excluding a person in your Will, consider making them a beneficiary of a Discretionary Trust instead. This will allow your trustees to decide what to do in the long-term.
KEEP CONTROL
By providing your trustees with details as to how you would like the trust assets to be used, you can keep control even after making the gift. This ensures that assets are used in the way that you wanted them to be.
VULNERABLE BENEFICIARIES
If one of your beneficiaries is considered to be vulnerable, a Discretionary Trust can ensure that their inheritance is protected for them. The trustees would be able to manage their inheritance, and also protect their entitlement to State Benefits or Social Care.
Frequently Asked Questions
Almost everyone can benefit from a Discretionary Trust. However, there are circumstances in which is would be prudent to have this provision added to a Will, or used during a client’s lifetime for a transfer of a gift. Some common situations that may warrant the use of a Discretionary Trust are where:
- A beneficiary is likely to “waste” funds through lack of maturity or “lose” money for lack of financial acumen; or
- There is the possibility of a beneficiary divorcing in the future; or
- Potential beneficiaries have addictions to gambling, alcohol or drugs for example; or
- Beneficiaries who receive means-tested state benefits or support; or
- The client wishes a child, partner or spouse to be excluded from benefitting; or
- There is uncertainty as to whom of a group of beneficiaries (for example, children) will require financial support; or
- A beneficiary is wealthy and might not want their inheritance in the future, as it would increase tax liabilities.
Trustees can use their discretion, and decide who should benefit. However, it is common to provide trustees with an “Expression of Wishes” that states your preferences, and provides guidance as to what you wish them to consider before distributing assets. This is not legally binding, but if you have selected your trustees wisely, they should consider your wishes before making any decisions.
Within a Discretionary Trust structure, the beneficiary does not own any assets in the trust. Instead, they have an expectation that they will be considered when the trustee(s) decide to make a distribution of monies from the trust.
Having no interest in the trust property means that if a beneficiary was to become bankrupt, or subject to a debt claim, a creditor would have difficulty in obtaining an order against the trust property. Equally, should a beneficiary divorce, the trust assets would not be part of any financial settlement. Also, where a beneficiary needs state support such as residential or social care, the trust assets will not affect their entitlement.
The role of a trustee is to hold the trust assets (for example a property) for the benefit of the beneficiaries of the trust. They must act in accordance with the provisions of the trust document, and also abide by statutory law.
Fundamentally, trustees have a duty to act in good faith, with honesty and integrity, and with the beneficiaries’ best interests always at the forefront of their minds. They should work to avoid any conflict between their personal interests, and those of the beneficiaries. In addition, trustees should keep records of their actions, and consult with the beneficiaries where necessary. They can also invest the trust assets (for example, money) for the long-term benefit of the beneficiaries.
Unless a trustee is also named as a beneficiary of the trust, they are unable to profit in any way; despite them being the legal owners of the trust assets. However, they can claim reasonable expenses in order to administer the trust.
Where a Professional Trustee has been instructed, they can charge for their time and services.
Generally, anyone who has the capacity to hold the trust property can be appointed as a trustee. A common misconception is that a beneficiary cannot be a trustee, but this is not actually true. Beneficiaries are often appointed as trustees of their own trusts. Clients will often appoint friends and family as their trustees, but some will also consider professionals such as accountants, lawyers and trust companies.
The trust period is often defined by the Settlor when the trust is initially created, or drafted. For example, it could be 20 years, or instead be defined based on the occurrence of a future event – a child reaching a certain age.
In practice, trusts end when all the trust assets have been distributed or the beneficiaries have passed away. Irrespective of the Settlor’s wishes, the Perpetuities and Accumulations Act 2009 provides that a trust cannot run for longer than 125 years.
