Will trusts and lifetime trusts
To set up a will trust you split the ownership of your house and become ‘tenants in common’.
Will trusts are mainly used by married couples and civil partners and are set up in conjunction with splitting ownership of the family home, to ‘tenants in common’, so each partner has 50%.
Rather than leaving this to each other, they leave it to a trust, which comes into being on the death of the first partner.
Until recently, nil-rate band will trusts were a common way of saving inheritance tax (IHT). A couple potentially liable could split their estate into halves, both below the nil-rate band.
However, since 2007 the ability to transfer unused IHT allowance ended the need to make this type of will trust for most couples, although they still ring fence assets against potential fees should you or your partner go into long-term care.
Will trusts and long-term care
If you use a will trust and your partner dies, you as the surviving spouse retain a right to live in the house. If you need to move into residential care, only your share is assessed by the local authority.
The part owned by the trust is not counted. In this way it is protected from care home costs. Government rules (Charging for Residential Accommodation Guide) suggest that this arrangement will not be contested as ‘deliberate deprivation’, meaning that you have deliberately split your assets to avoid paying high care home fees.
Will trusts and inheritance
Another reason for setting up a will trust is to avoid ‘sideways disinheritance’. This occurs when the first partner dies, leaving children from the marriage who might reasonably expect to inherit some of the family estate in due course.
If the surviving partner remarries and fails to make provision for their children in a new will, there’s a risk that everything will go to their new spouse instead.
A will trust uses up some or all of the first partner’s IHT nil-rate band in a way that leaving everything to your partner doesn’t. It could also create a capital gains tax liability for trustees.
Lifetime trusts are often known as property protection trusts or asset protection trusts.
Unlike will trusts, which come into being on death, lifetime trusts are established straight away. Your home is gifted to the trust, which allows you to carry on living in it. The rationale is that if you need residential care at some point in the future, you no longer own a house and can only be assessed on minimal assets.
Anyone considering setting up a lifetime trust for this reason should be aware that a local authority may regard this arrangement as ‘deliberate deprivation of assets’. If this is the case, they can assess you as if you still owned the property (and refuse to fund your care).
By placing property outside your estate, lifetime trusts can reduce probate costs significantly.
Lifetime trusts and tax
The tax treatment of lifetime trusts is worth considering carefully. Because you gift the house to the trust, it can attract IHT if it is worth more than the nil-rate band (currently £325,000).
Those who transfer their property to a lifetime trust may face an immediate 20% charge on the balance over £325,000 (including gifts made in the previous seven years), while the trustees must submit tax accounts to HMRC. They may have a further tax bill every 10 years plus income tax on any payments from the trust.
Lifetime trusts are far more expensive than basic wills or will trusts. They are normally sold as part of a package.
Will trusts and lifetime Trusts can be either fixed interest (where the first beneficiary has an absolute right to occupy the house and receive the income from any trust investments) or discretionary (where the trustees have a pool of potential beneficiaries and have a discretion how to benefit any of the potential beneficiaries).
Usually a discretionary trust also has a letter of wishes for the trustees to consider, which may give one beneficiary the trustees’ permission to live in the house or receive the income from investments. The tax treatment of fixed interest trusts is different from discretionary trusts.
Resolving Will, Trusts & Estate issues is highly complex and needs to be carefully planned with your accountant and family solicitor. IAIS can help you co-ordinate your requirements so that your wishes are covered and secured.