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How absolute trusts can be used for estate planning

In our last article we looked at “What are trusts?”. We will now look in depth at absolute trusts, also known as bare trusts, and how they could be used.


In simple terms an absolute trust is used when someone (the donor) wants to gift something to a child (the beneficiary). Once the donor has decided that they definitely want that child to receive the asset when the child reaches the age of majority (age 18 in England and Wales, age 16 in Scotland) they pass the asset to the trustees who will hold it for that beneficiary. An absolute trust does not allow the donor to change his mind – it is absolutely for the benefit of the named child and they will get it when they reach the appropriate age (18 or 16 as above). At that point the trustees pass the asset to the beneficiary and the trust comes to an end.


It is possible to create an absolute trust for more than one beneficiary and, on that basis, each beneficiary would be entitled to their allocated share when they reach majority. Let’s consider some examples.


Case study 1 - Michael


Michael recently retired and took his tax-free cash lump sum from his pension pot. He has five grandchildren ranging from 8 years old down to just 18 months. He would like to gift something to them now, while he still has cash available, although he doesn’t actually want them to receive their inheritance at this time as he feels they are too young to appreciate it. So he sets up an absolute trust with £25,000 and names his five grandchildren as the beneficiaries, with each being entitled to receive 20% of the original investment, plus any growth on that share, when they reach the age of majority. Michael appoints his son and daughter as the trustees.


This could achieve various things for Michael. He is setting this money aside for his grandchildren and therefore he can’t spend it on himself (or anyone else) in the future. If Michael has an inheritance tax (IHT) liability on his total estate this gift into the absolute trust starts a seven year clock ticking. Remember that any gift made during lifetime, which is not exempt, will remain inside the donor’s estate for seven years so, as long as Michael survives at least seven years, the initial gift of £25,000 will fall completely outside of his estate for IHT purposes with all growth being outside from the start of the trust. If Michael waited until each grandchild reached majority and then handed them the cash; firstly he may not still be alive when the youngest reaches 18 and secondly, if he is alive to make all the gifts at the relevant times he may not survive seven years after making the gifts which would mean one or more of them are still in his estate for IHT purposes when he dies.


The trustees can decide what type of investment they wish to invest the money into, bearing in mind that the oldest beneficiary will receive their share in approximately 10 years’ time and the youngest beneficiary will receive their share in 16 and a half years’ time. One type of investment they could consider, under these circumstances, is an investment bond as it is a non-income producing asset and therefore the administration is simple for the trustees. Investment bonds can be segmented into multiple policies at outset so, with five beneficiaries, the trustees may wish to pick a multiple of five for the total number of segments inside the bond. For example, if they chose 25 segments then each beneficiary would be entitled to receive the value from five segments when they reached age 18.


Case study 2 – Joanna


Joanna is 47, single and doesn’t have any children of her own, but she is very close to her niece and nephew – Megan, aged 5 and Jack aged 3. Joanna has been very successful at work and has already accumulated an estate worth over £1m. She realizes she could have an IHT liability when she dies as she will only have one nil rate band (currently £325,000) available to offset against her estate. Unfortunately Joanna won’t benefit from the recently introduced residence nil rate band (£100,000 in 2017/18 rising to £175,000 in 2020/21) as she doesn’t have any ‘lineal descendants’ to leave her residence to. It is Joanna’s intention to leave her estate to her sister and her niece and nephew. She is aware that if she makes a gift now, and survives seven years, that gift will drop out of her estate for IHT purposes and she would then have another nil rate band available, either for further lifetime gifting or to use against her estate when she dies.

Joanne decides to set up two absolute trusts, one for Megan and one for Jack, to help cover school fees as her sister would like to send Megan and Jack to private school when they reach age 10. So Joanna puts £250,000 into each of the absolute trusts and appoints herself and her sister as the trustees. When Megan and Jack start intermediate school at age 10 through to 18 (and potentially if either or both of them go onto university) the trustees will be able to use the trust funds to meet some, or all, of the school fees.


When Joanna gets to age 54 those gifts will drop out of her IHT calculation and her estate will be reduced by £500,000. At that time she can consider if she wishes to make any further lifetime gifts to further reduce her IHT liability.


Case study 3 – Special absolute trust


Our first two case studies use simple straightforward absolute trusts for one or more beneficiaries and we know the beneficiaries will get their entitlement when they reach majority. However some people feel that age 18 is still not old enough for a beneficiary to receive a LARGE lump sum – what if that child is still immature, or perhaps they’ve got in with the wrong crowd, or they’ve gone off the rails at that stage in their life? If the money is in a simple absolute trust, the child will receive the trust monies and it may mean that they have no inheritance left at age 18 and one month!


Where the donor is creating an absolute trust with a large sum of money (at least £50,000) and they are worried about the beneficiary being mature enough, there is a more bespoke type of absolute trust, Canada Life’s Controlled Access Account (CAA). This allows the trustees to retain control beyond age 18 but without it being or becoming a discretionary trust. The CAA is an absolute trust for one named beneficiary (who must be under 18 years old at commencement). This trust uses a special investment bond inside the trust – one which has individual policies which can mature each year, on the policy anniversary. The trustees can make the decision each year (while the child is under 18) as to whether or not they need to let one or more of the policies’ ‘mature’ in that year. The maturity proceeds could then be used to pay for the child’s education, maintenance or upkeep. If the proceeds of the policies are not needed that year, then the trustees can defer the maturities to a later policy anniversary while the beneficiary is under age 18.


The difference with this trust is that the trustees get to make a decision in the 12 months prior to the anniversary before the child turns 18 as to when they want the remaining policies to mature (remember they must always mature on a policy anniversary). So, for example, if a child is going to university or college the trustees could have some policies maturing in the policy year when the child turns 18, 19, 20 and 21 to cover university costs. Then they could have policies maturing the following year to help the beneficiary put a deposit on a house or a car with future maturity dates set at any age right up until the beneficiary turns age 49! Once the beneficiary turns 18 the trustees cannot defer any policies – hence why they have to decide, while the beneficiary is 17, at which anniversaries the remaining policies will mature. The maturity dates are then cast in stone and cannot be changed.


If this trust, or any type of absolute trust, is of interest to you please speak to your professional adviser who can explain how an absolute trust could work in your own specific circumstances.



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