Thursday 25 July 2013

What is a discretionary trust?

Discretionary Trusts Specialist
Article by
Chris Lucas

A discretionary trust is a trust set up whereby the trustees are given discretion over the trust fund, typically with regard to the payment of trust money to one or more beneficiaires. 

Who are the legal owners of the trust fund?
The trustees are the legal owners of the trust fund which can comprise of any assets, such as money, land or buildings.

What 'discretion' do the trustees have? 
Normally, the trustees will be able to decide how to use or invest the trust assets in the interests of the beneficiaries and how the trust fund should be distributed between the beneficiaries if at all.  Quite often, the person setting up the trust will have prepared a 'letter of wishes' to the trustees setting out how they would like the trustees to exercise their discretion. The extent of the trustees' discretion will depend on the terms of the trust.

Why use discretionary trusts?
One reason may simply be to allow the trustees flexibility to pay different amounts of income or capital to different beneficiaries. This can be useful if the future needs of a beneficiary is not known; for example a grandchild who may require greater financial assistance in the future.

Discretionary trusts are also particularly useful if one or more of the beneficiaries are not capable or responsible enough to look after money for themselves.  Common examples of this include a child or adult beneficiary with severe learning disabilities. In relation to the latter, particularly where a vulnerable beneficiary is in receipt of means tested benefits, a discretionary trust will enable the trustees to pay money to that beneficiary as and when required in such a way that the arrangment will not affect the beneficiary's entitlement to benefits. This is because the beneficiary would have no beneficial right to the trust money, rather a mere chance that the trustees might exercise the discretion in their favour. The situation would be very different in the case of a bare trust, where the beneficiary would have an absolute right to the trust fund.


When is a discretionary trust set up?
A discretionary trust can be set up during your lifetime, but it is also common for someone to inlcude a discretionary trust in their will. If the trust is created during the lifetime of the settlor i.e. the person setting up the trust, the trust would come into effect once the deed has been signed and the trust assets have been legally transferred to the trustees. If the trust is created by will, the trust would come into effect following the death of the testator i.e. the person leaving the will, and once the trustees of the estate hold the trust assets.

Are there tax advantages for using a discretionary trust?
Yes. If any of the beneficiaries pass away there will be no inheritance tax for their estates to pay, subject to the value of other assets in their own name outside of the trust.  Instead, the trust itself will be subject to the relevant property regime. This typically involves inhertiance tax payable once every ten years and also on each occasion where money is taken out of the trust. For small trusts, the amount of tax is not too harsh, particularly for those with an initial fund worth less than the nil rate band, which is currently £325,000. In those cases, there is likely to be no tax to pay at all, subject to any relevant lifetime gifts made by the settlor or testator in the previous seven years. The person putting money into the trust may also have a capital gains tax advantage, as gifts usually qualify for hold-over relief.

If you have any questions or would like to discuss setting up a discretionary trust please feel free to telephone me on 01992 422128 or email 

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Tel: 01992 422 128

The contents of this article are intended for general information purposes only and shall not be deemed to be, or constitute legal advice. We cannot accept responsibility for any loss as a result of acts or omissions taken in respect of this article.

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