Can a Trust be used for Inheritance Tax Avoidance?

The UK levies an inheritance tax on the assets of a deceased person that their beneficiaries pass on. It is a tax that can significantly reduce the wealth passed on to loved ones, and it is important for individuals to consider ways to minimize its impact. One strategy that can effectively reduce the burden of inheritance tax is using a trust. In this article, we will explore whether you can use a trust for inheritance tax avoidance.

What are Trusts?

A trust is a legal arrangement in which a person (the grantor, settlor, or trustor) transfers ownership of their assets to a trustee, who holds and manages those assets for the benefit of one or more beneficiaries. People can use trusts for various purposes, including estate planning, asset protection, and tax planning.

Individuals can use trusts to manage their assets, provide for their loved ones, and tailor the trust to their specific needs and goals in a flexible way. They can also provide certain legal protections and tax benefits that may not be available through other means.

Can I use trusts to avoid inheritance tax?

In some cases, trusts can be used as a tax planning strategy to help reduce the burden of inheritance tax.

In the UK, for example, inheritance tax is levied at a rate of 40% on the value of a person’s estate that exceeds the inheritance tax threshold, which is currently £325,000. A person can transfer assets out of their estate and into a trust to help reduce the value of the estate and the amount of inheritance tax due.

There are several types of trusts that can be used for this purpose, including lifetime trusts and discretionary trusts. However, it is important to note that there may be other tax consequences and potential legal implications associated with using trusts to avoid inheritance tax. It is advisable to consult with a legal or financial professional before making any decisions.

Many believe that if they place their funds in a trust, they can avoid inheritance tax. The government subjects trust to three distinct inheritance taxes: an entry fee, an exit fee, and a ten-year charge.

Entry Fee

The fee must be paid when assets such as real estate, land, or cash are given to a trust. These assets can be gifted while the person is still alive or transferred at less than their market value. Resulting in a loss to the estate, which is then deemed a gift or transfer.

Exit Fee

The exit fee is comparable. However, it is incurred when a trustee disperses funds from the trust to someone else, referred to as a beneficiary. This fee is calculated as a portion of the assets being transferred. When income is distributed to beneficiaries. No inheritance tax must be paid since the beneficiaries are in charge of paying the income tax instead.

Ten-year Charge

The ten-year charge, also called the periodic charge, applies to trusts with assets worth more than £325,000. Calculated on the ‘net value’ of the trust’s assets on the day before the tenth anniversary. Debts and reliefs, like Business Property Relief or Agricultural Property Relief, may be deducted from the net value. However, these cannot be applied if the assets have been held for less than two years. If all of the assets are passed to one or more beneficiaries before the ten-year anniversary. The ten-year charge will not apply, but an exit charge will still be due.

Setting up trust and the rules behind these can become complex. We advise you to consult a professional to understand whether a trust can be used for inheritance tax avoidance.

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