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Making sure your money goes to the right place when you die – a guide to trusts

When it comes to financial matters, you may well have heard about trusts, and ‘writing a policy under trust’, and not been too clear what these terms mean.

Trusts can be an excellent way of organising your financial affairs and reducing your tax liabilities.

Read on to find out what they are, how to set them up, and some of the advantages and disadvantages of using them.

What is a trust?

Put simply, a trust is a legal arrangement that lets the owner of something ‘gift’ it to someone else. This could be shares, your home, cash, or a life insurance policy. You will usually do this by creating a legal document called a trust deed.

The deed sets out the terms and conditions under which the trust operates; these are known as the trust provisions. Once the trust has started the policy can only be operated in line with these provisions, so the trustees – the people appointed to manage the trust – must act within the provisions set out in the deed.

For example, you might want to make sure your children will be taken care of in the event of something happening to you. A trust document allows you to set out some rules and guidance so that the trustees of your life insurance policy have to act in the interests of your children.

How do you set up a trust?

There are three groups of people needed to set up a trust. These are:

  • The settlor
  • The trustees
  • The beneficiaries.

The settlor is the person or people who set up the trust, and put their assets, into it. In other words, the current owners of the assets (e.g. a life insurance policy). The settlor chooses the trustees and decides who they would like the beneficiaries to be.

The trustees are the people responsible for looking after the assets put into trust and carrying out the wishes of the settlor that are specified in the trust.

The beneficiaries are the people who will get the money from the trust.

The trust holds the policy, and the trustees look after it, and arrange for the proceeds to be paid to the beneficiaries.

Using the example of setting up a trust for your children we referenced earlier:

  • The settlor is you (and your spouse or partner if applicable)
  • The trustees are whoever you choose to look after the trust
  • The beneficiaries are your children.

Can you change a trust once it’s set up?

Normally, placing a policy in trust is an ‘irrevocable’ act. This means once you’ve put assets in a trust you can’t change your mind later on.

This is different to, for example, making a will. Here you can change the terms throughout your life as your circumstances change. So, it’s really important that you think carefully about whether putting assets in trust is right for you.

What are the advantages?

The key advantage of writing a life insurance policy under trust is to ensure that the policy proceeds get paid to the right person or people in accordance with your expressed wishes. These people or groups of people are named on the trust deed as the beneficiaries.

It also gives you control over how the benefits from the policy are taken. For example, in the example mentioned earlier, you might not want your children to receive a big lump sum of money in one go – especially if they were still young. So, through a trust, you could arrange for the benefits of your policy to be paid out by the trustees over a period of several years.

Putting your policy in trust also means that the payment of the policy proceeds can be made quickly to the trustees and then on to the beneficiaries. This can be done separately to probate, which can be very time-consuming.

Additionally, and related to the point above, once you’ve put your life insurance policy in trust, the proceeds that are paid out won’t normally be included in your estate for Inheritance Tax purposes, and will usually pass tax-free to whoever you choose as beneficiaries.

What are the disadvantages?

When you put your policy in trust you have effectively given it away to the trustees to look after. This means that you no longer own it or have any control over it.

So, if you need to make changes to it you can’t – only the trustees can do this. Note that you can help mitigate this by selecting yourself as one of the trustees.

What type of trusts are there?

There are many different types of trust, which may have various advantages depending on your needs. Among the most common types are:

  • Bare trusts: As the name suggests, these are the simplest types of trust. The beneficiary has the absolute right to the assets within the trusts, as well as any income they may generate.
  • Discretionary trusts: These are where you give the trustees the power to decide how and when to use the trust funds for the specified class of beneficiaries. The trustees can be guided by the settlor in a letter of wishes.
  • Interest-in-possession trusts: In this case, a beneficiary has the right to receive an income generated by the trust’s assets or the right to use assets it holds. This can be for life or for a defined period. For instance, a beneficiary may have the right to live in a property that is held in trust until they die.
  • Mixed trusts: This is an option that blends multiple types of trusts. So, a portion of the assets held in trust can be set aside as an interest-in-possession trust, while the remainder can be treated as a discretionary trust, giving trustees greater control over a portion of the assets.
  • Spousal bypass trusts: These are primarily used for pension arrangements. Normally the value of your pension fund would automatically pass to your surviving spouse, but a bypass trust enables you to specify that it goes directly to your children.

These are just some of the different trusts available. A solicitor or financial professional will be able to talk through the different options, so you choose the type best suited for your needs.

How we can help

As you’ve no doubt realised from what you’ve read here, setting up a trust can be complicated, and it’s crucial to get a trust set up correctly and exactly in line with your wishes.

If you’d like advice, get in touch. Please email hello@sovereign-ifa.co.uk or call 01454 416 653 to find out how we can help.

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