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We caught up with Private Client Tax Partner, Sarah Axe, to find out how trusts can help with things like school fees, selling a business and helping to protect your wealth

Sarah, you say you “love trusts”. What’s that all about?

I do love trusts. I always feel quite sad with the bad press they seem to get. Many people stay away as they regard them as complex. The politicians and media have also done a good job in getting people to think that trusts are only used by the rich to avoid tax.

But, the main reason why people use trusts is nothing to do with tax. It’s all to do with protection.

I have a 20-year-old son and if I wanted to get income into his hands I could transfer some shares into his name and then he would receive the dividends – simple, right?

Wrong. Because whilst I love my son very much, I may NEVER trust the person he marries! So, by transferring shares into a trust for the benefit of my son, it can offer a layer of protection around the shares. Happy Mum.

So, what is a trust?

A simple lesson is that a trust is a bit like a company. It has its own tax return, pays its own tax, has someone who runs it (although these are trustees rather than directors), and people who can benefit from it – these are beneficiaries, similar to shareholders.

However, a trust must, at some point, come to an end. But it can last anything from 1 day to 125 years – so it could look after several generations.

What can they be used for? Who can use them?

Trusts are there to help beneficiaries, but this can be done without necessarily giving them access to capital. For example, if a beneficiary wanted to buy a house, the trust could loan money to them secured on the property. Therefore, in the situation of a relationship break-down, only the equity in the property would be at risk. That’s because the loan would eventually have to come back to the family trust.

How much can you transfer into a trust?

The maximum amount you can transfer into a trust is generally only the available inheritance tax (IHT) nil rate band (NRB), which is £325,000. This is reset every seven years. So, in theory, you could transfer £325,000 into a trust every seven years. For a married couple, this would be £650,000. Any excess over this amount would suffer a lifetime inheritance tax charge at 20%.

Are there any other benefits? What about tax?

Whilst the main reason behind setting up a trust is protection, there are also tax advantages.

Can you give us some examples?

Of course. These examples below really bring to life what a trust can do. It can help you at several points in your life – from sending your children to university to selling a company.

Example 1 – School fees planning

Let’s think about Eton College for a moment. Currently, the annual cost is around £41k.

If you were to take a dividend from a company to pay for this, the worst case would be that you’d need to take £66k as a dividend (paying £25k in tax), which would leave you with £41k. So, not very tax efficient.

But if the shares were held in a trust, the dividend that would have to be paid to fund the £41k school fees is £43k. So, a tax saving of £23k per year per child.

However, before you get too excited there is a BUT. This doesn’t work if you’re the parent and your children are under 18. Because, if you own the shares and transfer the shares into trust for your children, the tax benefits do not work, and the dividends are taxed back on you as the parent. So, you’re back to it costing £66k to pay £41k.

Therefore, what you need is a grandparent who owns shares in the company to set up the trust and transfer in the shares if the children are under 18.

Example 2 – university fees

It’s the same principle.

If we say it costs £20k a year to fund your child through University, the worst case is you need to take a dividend from the company of almost £33k to fund this. So, losing almost £13k in tax each year

However, if we use a trust, the dividend would only need to be £20,498. So, a tax saving of £12,500 per year, per childa tax saving of £12,500 per year, per child. The good news is – now your child is over 18 you don’t need a grandparent either, so a parent can do this.

Example 3 – selling a trading company

You may look to use trusts in the event of a sale of the company, where you’re receiving a significant sum and are looking to set some of this aside for your children and/or grandchildren.

The question is, do you want to set aside more than £650k (if you are married) for the children and in a protected structure?

If you do want to set aside a larger sum, we’d have to consider planning by transferring shares into trust before the sale has happened. If you get the timing and structure right there is the potential to get more than £650k into trust, therefore saving a significant amount in tax.

Example 4 – planning for a business’s future (succession planning)

Trusts can help with succession planning too. Quite often, people are worried about passing on shares to the next generation in a family business. You might be thinking:

  • Are our children ready?
  • I’ll lose all control!
  • What happens when our kids have kids and their kids have kids – there will be too many shareholders – how will the business be able to carry on?

A trust can help with this as the shares can be passed on without losing control. And whilst the beneficiaries of the trust can be wide, decisions on the shares sits with the trustees who are managing the trust

Example 5 – non-trading assets such as investments or property

My final example is where you may own an asset which is non-trading. For example, shares in an investment company or a rented property.

Let’s imagine Mum has a rented property that she wants to pass on to her two daughters who are both in their early twenties. However, she bought the property in the 1990s and it cost her £50k, but it’s now worth £300k!

If she gifted the property to her daughters, the gain would be £250k. And in the worst case, her capital gains tax liability would be £70k. Even worse – she has no cash in which to pay this.

However, if she put it into a trust for her daughters, then the £70k could be deferred until such time that the property is sold in the future. So again, a huge saving by using a trust.

Any last words on trusts?

I could talk about trusts all day! But honestly, if you’d like to know any more about trusts or if you have any questions, please get in touch. I’d love to help.

Check out our latest blog posts: R&D Tax Relief & Pensions Research.


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