When people are planning for their future, most have two objectives, to protect their assets and provide for their loved ones. A Discretionary Trust is a legal structure that can offer both. It allows you to safeguard your wealth, maintain some control, and ensure your beneficiaries are looked after. It also provides the flexibility to deal with changing circumstances over the passage of time and a number of different scenarios that may arise.
What Is a Discretionary Trust?
A Discretionary Trust is a Trust Deed that can be created during your lifetime, or upon your death by the terms of your Will. The structure of a Discretionary Trust enables you, as the person putting your assets or money into the trust (known as the Settlor), to give those assets to a group of people chosen by you (the Trustees) to look after for the people you want to benefit from the trust (the Beneficiaries).
As the Settlor, you may appoint yourself as a Trustee. If you would like to keep control of how the assets in the Trust are used, then you would be able to do so by being a Trustee. Whilst extracting the asset from your estate and allowing your beneficiaries to enjoy it, jointly with the other Trustees you still retain decision making power until transferred to the beneficiaries absolutely.
The Trust Deed will name the group of people who you want to benefit from those assets (the Beneficiaries). It will be at the discretion of the Trustees to decide which of the Beneficiaries to pass assets on to, when, and how much they will receive. The Trustees have the authority to decide how income and capital from the trust should be distributed among the beneficiaries.
You can leave detailed instructions and directions to the Trustees as to how you would like them to exercise their discretion by preparing a Letter of Wishes to accompany the Trust Deed. Although the Letter of wishes is not legally binding on the Trustees, they will often take them into consideration and follow your wishes as closely as possible, whilst considering other factors. This flexibility allows the Trustees to respond to changing family, financial, or tax circumstances.
Who Is Involved in a Discretionary Trust?
- Settlor: The individual who sets up the trust and transfers assets into it.
- Trustees: The people appointed to manage the trust assets in line with the trust deed.
- Beneficiaries: The individuals or groups who may benefit from the trust.
What are the advantages of a Discretionary Trust?
Asset Protection
Because of its discretionary nature, with the decision as to who benefits, when and by how much resting with the Trustees, none of the Beneficiaries are “entitled” to any of the trust fund. Therefore, assets held in a Discretionary Trust are generally protected from claims in situations like divorce, bankruptcy, or litigation. If a beneficiary is going through a divorce, an appropriate Discretionary Trust can ensure that assets from your estate won’t pass to their former spouse. Similarly, if a beneficiary is bankrupt, or in danger of becoming bankrupt, there is a real risk that with no Discretionary Trust in place, any gift from your estate could be paid directly to the Beneficiary’s creditors.
Since beneficiaries have no fixed entitlement, their creditors usually cannot access trust assets.
Estate Planning Flexibility
A Discretionary Trust helps you control how family wealth is used and distributed, even across generations. This can included business interests and family companies. It can provide for children or dependants who are not yet financially mature or have special care needs. It can provide for specific scenarios arising and changing circumstances.
If a beneficiary has a disability or is vulnerable in some way, or receives other state benefits, any money paid directly from your estate could reduce their entitlement to state support or render them ineligible completely. A trust for a vulnerable person can benefit from favourable tax treatment.
Potential Tax Planning Benefits
When used appropriately, Discretionary Trusts can offer income tax saving opportunities or structure estate transfers efficiently. However, tax treatment varies, so professional tax advice is essential.
Scope and Continuity
A Discretionary Trust can be set up during your lifetime and continue to run smoothly after your death, ensuring uninterrupted management of family wealth.
Do I need to register my Trust with HMRC?
Most trusts in the UK must be registered with HMRC’s Trust Registration Service, but certain trusts are exempt, such as those imposed by a court or created through legislation. Trustees are legally responsible for ensuring registration where required. Failing to do so can lead to penalties, so it is important to confirm your obligations with a solicitor or a tax adviser. Read more…
Tax Opportunities and Obligations of a Discretionary Trust
Income Tax
Trustees are responsible for paying Income Tax on income received by the Trust. The Trust will pay the higher rate of Income Tax. Any gross income above £500 (being the allowance for Trusts) is taxable at the current trust tax rate of 45%. Dividend income is charged at a rate of 39.35%. If the Settlor has more than one Discretionary Trust, the £500 tax free limit is divided by the number of trusts.
When Trustees pay income to a beneficiary who is taxed at less than 45% the beneficiary can reclaim the tax so that the eventual tax burden does not exceed what it would have been if the trust assets were their own.
Discretionary Trusts can be a useful tool for income tax planning, depending on the circumstances of the beneficiary.
Capital Gains Tax
This is a tax on the profit (gain) when an asset that has increased in value is taken out of or put into the Trust.
If assets are put into the Trust, the tax is paid by the person selling or transferring the asset.
If assets are taken out of the trust the Trustees usually have to pay the tax is they sell or transfer assets on behalf of the beneficiaries.
The rate of Capital Gains Tax is payable at 24% if the trust’s annual total taxable gain is greater than its tax-free allowance (£1,500 or £3,000 if the beneficiary is vulnerable. If there is more than one beneficiary, the higher allowance may apply even if only one of them is vulnerable.
Inheritance Tax
Inheritance Tax may be payable on a person’s estate when they die. Inheritance Tax can also apply when you are alive if you transfer some of your estate such as property, money, investments etc into a trust.
The main situations when Inheritance Tax is due are:
- When assets are transferred into a trust, if the value of the assets put into the trust by the settlor exceeds the £325,000 nil rate band. Where the asset qualifies for relief such as Business Property Relief then it may be that no IHT arises on the initial transfer.
- When a trust reaches it’s 10-year anniversary of being set up (10-yearly Inheritance Tax payments). This is currently up to 6%, payable on the amount by which the value of the trust fund exceeds the available nil rate band.
- When assets are transferred out of a trust, known as exit charges. This is when capital or assets are distributed from the trust to a beneficiary. These are generally a proportion of the 6% charge, depending on the time passed since the last 10-year charge.
- When somebody dies and a trust is involved.
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What are the Duties of Trustees in a Discretionary Trust?
Trustees of Trusts should be aware of the need to comply with the HM Revenue & Customs Trust Registration Service. This is a central register that HMRC maintains of most trust arrangements, particularly express trusts (i.e. those created intentionally by the settlor). Registration is often required even if the trust has no tax to pay at the time it is created.
Trustees also have administrative obligations and duties such as keeping accounts, filing Trust Tax Returns, and ensuring the payment of tax where applicable.
Conclusion
There are a range of situations where a Discretionary Trust could provide a flexible solution for protecting your estate and your family’s future. You do not have to be wealthy to find that a Discretionary Trust can offer a flexible, effective way of passing assets onto your chosen beneficiaries.
It is important to consider who you would appoint as Trustees. They should be trustworthy, impartial where possible and financially competent.
It is important to ensure clarity as to the terms of the Trust including its powers, intent and scope.
It important to recognise and understand compliance obligations and the tax treatment associated with Discretionary Trusts, and to consider whether other planning options would be more tax effective or appropriate for your individual situation.
The key issues is to recognise that bespoke advice is needed and to seek both expert legal and financial advice as early as possible.
Contact our Discretionary Trusts Solicitors for Advice
Here at Thornton Jones, we can provide bespoke advice tailored to your circumstances.
Our experienced team will advise you on whether a Discretionary Trust suits your circumstances, or perhaps another kind of Trust, and if appropriate draft a bespoke Trust Deed to reflect your intentions, assist Trustees with administration and compliance and coordinate with financial and tax advisors where appropriate.
If you need assistance or advice you can contact our team today on 01924 290 029 or contact us using our online enquiry form.
Discretionary Trust Solicitors FAQs
Capital Gains Tax (CGT) is a tax on the profit you make when you sell or dispose of an asset that has increased in value, such as property, shares, or other investments. It is only charged on the gain, not the total sale amount, and certain exemptions, like your annual CGT allowance, may apply.
Inheritance Tax (IHT) is a tax on the estate (property, money, and possessions) of someone who has passed away. In England, it is typically charged on estates valued above a certain threshold, with exemptions available for gifts, charities, and transfers between spouses or civil partners.
Income Tax is a tax on money you earn, including wages, pensions, self-employed profits, and some savings or investment income. The rate you pay depends on your total income and the applicable tax bands, with personal allowances and reliefs reducing the amount you owe.
The content of this blog post is for information only and does not constitute formal legal advice and should not be relied upon as advice. Thornton Jones Solicitors Limited accepts no liability for any such reliance upon this content. Where the post includes links to external websites, Thornton Jones Solicitors Limited accepts no responsibility for the content of such sites. Any link to a third-party website should not be construed as endorsement by Thornton Jones Solicitors Limited of any content, products or services which are outside our direct control.
Contact our Discretionary Trust Solicitors in Garforth, Leeds
Thornton Jones Solicitors
Westbourne House
99 Lidgett Lane
Garforth
Leeds
LS25 1LJ
Tel: 0113 246 4423
Fax: 0113 831 4929
Email: enquiries@thorntonjones.co.uk
Contact our Discretionary Trust Solicitors in Wakefield
Thornton Jones Solicitors
Bank House
1 Burton Street
Wakefield
WF1 2GF
Tel: 01924 290029
Fax: 01924 290240
Email: enquiries@thorntonjones.co.uk
Contact our Discretionary Trust Solicitors in Ossett, Wakefield
Thornton Jones Solicitors
25 Bank Street
Ossett
WF5 8PS
Tel: 01924 586466
Fax: 01924 290240
Email: enquiries@thorntonjones.co.uk
Contact our Discretionary Trust Solicitors in Sherburn in Elmet, Leeds
Thornton Jones Solicitors
6 Finkle Hill
Sherburn in Elmet
Leeds
LS25 6EA
Tel: 01977 350500
Fax: 0113 831 4929
Email: enquiries@thorntonjones.co.uk
