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Trusts - Simple yet effective

This article explains how trusts are simple yet effective financial planning tools. It provides an overview of why trusts should be used with Old Mutual Life Assurance policies.

Every 22 minutes in the UK a child loses a parent*.

Thankfully, 18.4 million people in the UK are covered by life assurance**. It seems these people understand the importance of protecting their loved ones financially during this difficult time.

Unfortunately, the amount of money their loved ones will actually receive and when they will receive it, will often depend on whether a trust has been created for these policies.

A trust will protect the money from inheritance tax. If a trust is not created, inheritance tax at 40% will be applied to the money once the deceased’s estate exceeds the nil rate band, currently £325,000. A person’s estate generally includes all of their assets such as their house, investments etc, less their liabilities such as their mortgages, credit cards etc.   

A trust also avoids the lengthy delays of probate. Probate can often take several months to complete. A trust instead allows the money to be paid usually within a few days of the death certificate being received by the life office.  

Despite these compelling facts, the majority of life assurance policies are not written in trust. One of the reasons for not writing these policies into trust is the perception that trusts are too complicated. This is a sad myth that needs to be dispelled.

Trusts are in fact simple, yet effective financial planning tools.  Below is a reminder of what a trust is, who the parties to a trust are, how they are created and an overview of the main trusts offered by Old Mutual for life assurance policies.

What is a trust?

A trust is simply a way of transferring the ownership of property. However, instead of giving it directly to the person you want to benefit, you pass it to another person to look after it for them as shown in the example below.

Example

David has an Investment Bond worth £100,000. He wants to transfer the bond to Susan. However, David knows that as soon as Susan receives the bond she will cash it in and head to Las Vegas. The money will only last for a couple of weeks. Instead, David transfers the bond to Dean to look after it for Susan. The trust provides David with piece of mind that the money will not be wasted. The bond will also be excluded from David’s estate for inheritance tax purposes if he survives 7 years from the date the trust is created.

Who are the parties to a trust?  

Trusts have three main parties.

The settlor is the person who originally owns the property and creates the trust, so David is the settlor in the above example.

The trustees are legal owners of the property and look after the property for the beneficiaries, so Dean is the trustee in the above example. Trustees can be individuals or companies. The main benefit of using a professional trust company such as Old Mutual International Isle of Man Trust Company is that the trust will be administered impartially and professionally.

The beneficiary is the equitable owner of the property and can benefit from the trust property, so Susan is the beneficiary in the above example.

Beneficiaries can be individuals, charities, companies or even trustees of another trust.   

The beneficiaries are able to challenge the trustees decisions in court if they believe that they have not acted in accordance with the trust or trust law.   

How is a trust created?

In order to create a trust, three certainties are required. It must be clear that there is an intention to create a trust, who the beneficiaries are and what property is being transferred to the trustees.  

What are the main types of trust offered by Old Mutual Wealth?

We have a comprehensive trust range to help meet your client’s needs. The information below provides a high-level summary of some of the factors to consider when deciding which one to use.    

The right type of trust will generally depend on the settlor’s requirements from the life assurance policy as outlined below.

‘Income’, Capital and Growth – Discretionary Trust Settlor Included

Main purpose – To avoid probate   

Not to be used for inheritance tax planning where the settlor is UK domiciled or the trust property is situated in the UK.

Variations available - Can be used as an excluded property trust where both the settlor is non UK domiciled and the trust property is situated outside the UK.    

‘Income’ Only – Discounted Gift Trust

Main purpose – Inheritance tax planning in respect of the trust fund. In effect, the value of the ‘income’ and the growth of the trust fund is immediately outside the settlor’s estate. The whole trust fund will be outside the settlor’s estate, if the settlor survives 7 years from the start date of the trust.

Not to be used where the settlor also requires access to capital invested or growth on the trust fund.

Variations available – Discretionary and Bare.

Capital Only – Loan Trust

Main purpose – Inheritance tax planning in respect of the growth of the trust fund. In effect, the growth of the trust fund is immediately outside the settlor’s estate, while allowing access to capital.  Assuming loan repayments are spent the settlor’s estate should also gradually reduce.

Not to be used where the settlor also requires access to the growth of the trust fund.

Variations available – Discretionary unlimited liability or limited liability, Bare and Enhanced Loan Trust.

Neither ‘Income’, Capital or Growth with flexibility to change beneficiaries – Discretionary Trust Settlor Excluded

Main purpose – Inheritance tax planning in respect of trust fund. In effect, the trust fund will be outside the settlor’s estate if the settlor survives 7 years from the date the trust is created or 7 years from the date any additional premiums are paid into the trust.

Not to be used where the settlor requires access to any of the trust fund or does not want to change the beneficiaries in the future.

Variations available – Discretionary, Bare and Best Start in Life Trust.

Neither ‘Income’, Capital or Growth without flexibility to change beneficiaries – Absolute Trust

Main purpose – Inheritance tax planning in respect of trust fund. In effect, the trust fund will be outside the settlor’s estate if the settlor survives 7 years from the date the trust is created or 7 years from the date any additional premiums are paid into the trust.

Not to be used where the settlor requires access to any of the trust fund or wants to change the beneficiaries in the future.

Critical illness benefits – Protect

Main purpose – Inheritance tax planning in respect of the death benefit while retaining critical illness benefits.  In essence, the death benefit will not be included in the settlor’s estate for inheritance tax purposes.  The premiums payable will also be excluded from the settlor’s estate if the settlor survives 7 years from the date they are paid into the trust or if they are covered by one of the inheritance tax exemptions.

This article underlines the importance of clients obtaining financial advice to ensure that they have the correct amount of protection in place and the most appropriate trust for their needs.    

* according to child bereavement UK.

** according to YouGov report “The Life and Health Protection” report.

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