We use cookies to deliver the best possible web experience. By continuing to use this site, you agree that we may store and access cookies on your device. You can change your preferences at any time on your browser. For more detail, click here to view our cookie policy.

Generic Links

Welcome to RL360's

dedicated financial adviser website

For financial advisers only

Not to be distributed to, or relied on by, retail clients

Miconceptions over discretionary trusts

A discretionary trust is the most flexible type of trust, catering for a wide class of potential beneficiaries. However, there is a common misconception that such flexibility often comes at a cost

Some clients assume they must choose between their hard-earned cash being handed over to beneficiaries at the age of 18, as is the case with a Bare Trust, or paying UK Inheritance Tax (UK IHT) upfront at a rate of 20%, if the amount going into a discretionary trust is in excess of their available nil-rate band.

However, flexibility does not always have to come at a cost. A discretionary Discounted Gift Trust (DGT) can provide a suitable solution. A general misconception with DGTs is that the initial premium has to be at or below the nil-rate band. This is not the case. In fact, the initial premium can be discounted by as much as 73.3% (for a female aged 60)1.

Take Mr and Mrs Plum, for example. Mr Plum is aged 67 and Mrs Plum is aged 65 – both are in good health. Their assets are as follows:

Assets Value Home £600,000 Home Contents £75,000 Bank deposits £350,000 Other investments £450,000 Total assets £1,475,000

The Plums don’t want to lose control of their capital as they are not even sure about who their beneficiaries are going to be. They decide that, on this basis, putting their assets into a Bare Trust is not an option.

If Mr and Mrs Plum decide to put their money into a DGT, they can invest just under £2 million before they incur a 20% charge (assuming both of their nil-rate bands have not been utilised elsewhere). Their discounted rate1 is calculated as follows:

% Discount Maximum Amount Mr Plum 60.4% £820,500 Mrs Plum 73.3% £1,217,000 Total £2,037,500

The Plums think this is an ideal solution for them as they can set up the DGT on a discretionary basis, therefore ensuring distributions can be made to the beneficiaries as and when it is deemed appropriate.

An alternative solution would be to place £650,000 into a discretionary trust and place the remaining £150,000 into an alternative tax-efficient wrapper, thus avoiding the 20% charge. However, the Plums think this solution seems overly complicated and would only consider this as a last resort.

Another point worth mentioning is that the rate of interest used by Her Majesty’s Revenue and Customs (HMRC) for calculating the value of an investor’s income from a DGT is 5.25%. This means 13% more can be placed into a DGT when compared to the previous rate of 6.75%.2

1 Discounted rates have been calculated as per HMRC .The calculations are based on the trustees paying the Settlor an annual capital withdrawal of 5% of the initial investment on a monthly basis in arrears.

2 This is Money, 4 March 2009

Do not forget to read about our double award-winning Select DGT – Best New Product (UK Offshore) and Best Estate & Trust Planning Product (UK Offshore) at the International Adviser Awards 2010.

Important notes

Please remember that a Discounted Gift Trust may not be a suitable solution for your client, for example, where they do not want to take an income.

Please note every care has been taken to ensure that the information provided is correct and in accordance with RL360’s current understanding of the law and HMRC practice as at September 2010. You should note however, that RL360 cannot take on the role of an individual taxation adviser and independent confirmation should be obtained before acting or refraining from acting upon the information given. The law and HMRC practice are subject to change. Legislation varies from country to country and a policyholder’s country of residence may impact on any of the above.