How to use Trusts to reduce Property Taxes

The moment you put any money or property in a trust, you no longer own either asset – well, as long as specific conditions are met. What this means is that the money or property may not count in your Inheritance Tax bill after your demise. But is it really all that straightforward? Can you simply use a trust to cut your property taxes?

Can trusts really be used to reduce property taxes?

To be completely frank, trusts are not meant to be used as ‘vehicles’ to avoid paying your due taxes. In fact, in reality, you would rarely set up a trust just to enjoy any tax advantages.

You see, when you set up a trust, you are essentially surrendering ownership of the assets held in the trust. As one might imagine, it is a dramatic decision, and will usually make sense to go ahead as long you have some very clear goals about what it is you want to accomplish with your assets. So, tax really should be a secondary issue.

In many cases, tax exemptions or advantages given to trusts are very tightly geared towards those which are believed to be doing social good: trusts for the disabled or elderly, charitable trusts, or those for vulnerable and underprivileged people. And, in many situations, you may have likely witnessed how some trusts may help you avoid one kind of tax, but you may eventually be caught by another.

Now, is this to say that putting your money in a trust will not help you cut down inheritance tax at all? Not necessarily.

If executed correctly, any individual can use a trust to cut down their inheritance tax liability on their property or estate, which means they can pass on more wealth to the beneficiaries after their demise.

Even though trusts are just one of many tax-efficient ways to cut down the value of your estate, they can also be a complex inheritance tax planning method. With that said, trusts are generally overlooked by people who are attempting to exercise better control over their estate and widely misunderstood by the general public at large.

For instance, did you know that one in four individuals did not know they could write life insurance policies into trusts in 2018 and 2019? This resulted in over 6,000 estates paying inheritance tax unnecessarily – that’s more than £280 million which could have been legally avoided.

What is a trust, anyway, and what does it do?

A trust is a legal arrangement – one where you ‘entrust’ someone with cash, property or investments so that they can keep them safe for the benefit of a third party or individual – e.g. the beneficiary. For instance, a common example would be of a trust for your children where you put aside some of your savings.

In any trust, two roles need to be essentially understood:

• The trustee – An individual who owns the asset in the trust. A trustee has the same authority a person would have to purchase, sell or invest their own property. So, it’s the trustee who runs the trust and manages the property or assets in a responsible way.
• The beneficiary – An individual whom the trust is set up for. These will be the person(s) who will benefit from the assets held in the trust after your demise.

So, as we pointed out at the start of the article, any assets put into a trust no longer belong to you, provided certain conditions are satisfied. So, in the event of your demise, the assets’ value will typically not count when your Inheritance Tax bill is calculated. Therefore, in a way, the property is outside the bounds of anyone’s estate (for the purpose of Inheritance Tax) when it is held in a trust.

Another possible advantage is that a trust can help you exercise control over the asset and keep it safe for the intended beneficiary. This can prove to be quite valuable when you want the trust to avoid handing over any money, property or investment while the beneficiaries have not come of age.

The trustees are legally obliges to watch over and manage the assets in the trust, on behalf of the person who will eventually benefit from it at some point. Also, when you set up a trust, you must decide how it is to be managed. For instance, you might stipulate that your children may only access the trust after they are 21 years of age or older.

Different types of trust and potential benefits

The simplest kind of trusts are called a bare trust, where the beneficiaries inherit the assets on their 18^th birthday. These are typically exempt from Inheritance Tax but you need to satisfy a certain condition: the asset must be transferred into the trust at 7 years prior to your demise.

Discretionary trusts is where the trustee has control over how the assets will be distributed. For instance, a grandparent might setup a trust and appoint their mature child as a trustee – who, in turn, would use his/her own discretion to distribute the assets among the grandchildren.

Interest-in-possession trusts allows the beneficiaries to gain an income from the trusts, although they are not allowed to access the asset responsible for generating the income. This kind of trust is typically useful for people who remarry but have children from their first marriage.

Mixed trusts draw upon a variety of elements from the above trusts, although these can get very complex. It’s best to consult a solicitor who can guide you through this complex maze.

To close off the article, we’ve established that it may be possible to cut down Inheritance Tax dues on your estate by putting assets into a trust – but – if only specific conditions are met.

Trusts are certainly a very important estate planning tool and may help you reduce property taxes to a degree – the laws around trusts is complex and you may set yourself up for an immediate tax charge if you’re not careful while setting one up.

To discuss how Accountants in Slough can assist you with your Trust setup preparation, please contact us for a free, no obligation consultation on: 01753 373 505 or complete our Contact form and we will get back to you.

HMRC guidance on the subject on can be found here: Trusts and taxes – GOV.UK (www.gov.uk)