Property passing outside the estate - Trust property

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Overview

Trust property is essential in advanced estate planning and a key topic in the SQE1 FLK2 exam. This legal mechanism allows sophisticated asset management across generations, providing control and potential tax advantages. Aspiring solicitors require a complete understanding of trust property, including its legal basis, diverse structures, and tax implications. Such knowledge is essential for advising on estate planning, wealth preservation, and succession strategies in complex legal situations.

Legal Framework of Trusts

Statutory Basis

Trusts in England and Wales are primarily governed by the Trustee Act 2000, detailing trustees' duties and powers, and supplemented by:

  • The Trusts of Land and Appointment of Trustees Act 1996 (TOLATA)
  • The Perpetuities and Accumulations Act 2009
  • The Inheritance Tax Act 1984

Knowledge of these laws is vital for handling the complexities of trust law in estate planning.

Influential Case Law

Key cases shaping trust law include:

  • Saunders v Vautier (1841): Confirmed that adult beneficiaries can end a trust with unanimous agreement.
  • Schmidt v Rosewood Trust Ltd [2003] UKPC 26: Clarified beneficiaries' rights to trust information, highlighting the court's discretion in disclosure.

These cases demonstrate how trust law evolves and highlight the importance of staying updated for the SQE1 FLK2 exam.

Trust Structures and Their Uses

Trusts come in various forms, each suited for different applications:

1. Discretionary Trusts

  • Definition: Trustees decide on income and capital distribution.
  • Features:
    • High adaptability in estate planning
    • Trustees have full discretion
    • Beneficiaries have no fixed rights, only potential benefits
  • Tax:
    • Subject to specific inheritance tax rules
    • Periodic and exit charges may apply

Example: A family trust is set up to support children's education and healthcare, allowing flexible use of resources.

2. Interest in Possession Trusts

  • Definition: Beneficiaries receive income; capital remains for the future.
  • Features:
    • Immediate benefit along with long-term asset management
    • Current income rights with future capital interests
  • Tax:
    • Generally included in the life tenant's estate for tax purposes
    • Possible reliefs on qualifying assets

Example: A family farm trust ensures current farming income supports today, with land preserved for future generations.

3. Bare Trusts

  • Definition: Beneficiary owns both income and capital.
  • Features:
    • Common for assets held for minors
    • Beneficiary assumes full ownership at adulthood

Example: A grandparent sets up a trust holding shares for their grandchild, granting ownership upon adulthood.

4. Pilot Trusts

  • Definition: Used for inheritance tax planning.
  • Features:
    • Created with small initial sums
    • Larger assets added later
    • Designed to maximize tax efficiency

5. Charitable Trusts

  • Definition: Established to support charities.
  • Features:
    • Exempt from inheritance and income tax on qualified expenditures
    • Can reclaim Gift Aid on donations

Example: A charitable trust funds medical research, directing resources to a specific cause.

Trustees' Duties and Responsibilities

Trustees have key duties as defined by the Trustee Act 2000:

  1. Duty of care: Must manage the trust with skill and attention.
  2. Investment: Obliged to diversify appropriately.
  3. Impartiality: Balance different beneficiaries' interests.
  4. Accounting: Keep detailed records and inform beneficiaries.

Breach of trust may lead to personal liability. The Hastings-Bass principle, refined in Pitt v Holt [2013] UKSC 26, allows courts to remedy trustees' mistakes, under specific conditions.

Tax Considerations for Trust Property

Managing tax responsibilities is a major aspect of trust-related estate planning. Trusts can address Inheritance Tax (IHT) and Capital Gains Tax (CGT) challenges.

Inheritance Tax (IHT)

Trusts can defer or reduce IHT through:

  1. Nil-Rate Band Discretionary Trusts:

    • Use available tax bands every seven years
    • Achieve substantial tax savings per cycle

  2. Excluded Property Trusts:

    • Offshore trusts for non-UK residents
    • Keep assets outside UK's tax reach

Capital Gains Tax (CGT)

CGT on trust assets generally applies at disposal, allowing strategic management:

  • Holdover relief on certain transfers
  • CGT-free uplift on death for some trusts

Case Study: Multi-Generational Estate Planning

Consider a high-net-worth family:

  • Family business (£10 million)
  • Investments (£5 million)
  • Real estate (£8 million)

Strategy:

  1. Discretionary Trust for the business, leveraging tax relief.
  2. Interest in Possession Trust for real estate, ensuring income and preservation.
  3. Multiple Pilot Trusts for investments, optimizing tax advantages.

Outcome:

  • Immediate tax benefits on business assets
  • Flexible, strategic income support
  • Potential million-pound tax savings on investments
  • Wealth preserved for future generations

This approach highlights the strategic use of trusts in estate planning, a critical area for the SQE1 FLK2 exam.

Conclusion

Trust property is essential in estate planning, offering flexibility and tax advantages. For SQE1 FLK2 candidates, understanding trust principles is critical, covering their structures, legal frameworks, and tax strategies. A strong understanding of these elements enables success in exams and future practice.

Key Points

  1. Familiarize yourself with different trust structures and their specific uses.
  2. Understand the legal and tax considerations involved.