“Inheritance Tax is, broadly speaking, a voluntary levy paid by those who distrust their heirs more than they dislike the Inland Revenue.”
This fantastic quote is attributed to Roy Jenkins, a former Labour Chancellor of the Exchequer. The point is simple. There are often ways you can reduce potential Inheritance Tax. Though, to be fair, I wouldn’t go as far as saying that those who don’t take action are deliberately giving HMRC more money!
So, was Baron Jenkins right? One way to reduce your Inheritance Tax liability is to use trusts.
Why are trusts being considered more often?
Inheritance Tax (IHT) is charged on the value of your estate when you die. While there are allowances in place, including the £325,000 nil-rate band, this threshold has remained unchanged since 2009 and is set to remain frozen until at least 2031.
At the same time, asset values, especially property and investments, have gone up significantly. Starting in April 2027, unused pension funds will also be included in an individual’s estate for Inheritance Tax. All of this means that more families may face IHT than in the past.
One simple way to lower a future IHT bill is to give away assets while you’re still alive. If you live for seven years after making the gift, it usually won’t count as part of your estate. However, giving away assets does have its downsides.
The balance between giving and control
Once you give something away, you usually lose control over how it’s used. Money given to family members could end up in a divorce settlement, be claimed by creditors, or just be spent in ways you didn’t plan.
Trusts can provide another option. By putting assets into a trust, you might be able to take them out of your estate but still keep some control over how and when they’re used.
How trusts work in practice
A trust is a legal structure where assets are held by trustees on behalf of beneficiaries. In a discretionary trust, the trustees you appoint have the authority to decide:
• who benefits from the trust
• how much they receive
• when distributions are made
You can also give guidance through a “letter of wishes.” This helps trustees understand what you want, while still allowing flexibility if things change. This structure can be particularly useful in situations where:
• beneficiaries are young or financially inexperienced
• there are concerns about third-party claims, such as divorce
• long-term family planning is a priority
Planning across generations
Trusts can help manage the transfer of wealth across generations. Sometimes, people want to help their children or grandchildren financially without making their estates bigger for IHT. A trust allows assets to be used for a beneficiary’s benefit without the beneficiary owning them directly. However, because trusts separate assets from personal ownership, they have their own tax rules.
Understanding the tax implications
Trusts, especially discretionary trusts, are subject to specific Inheritance Tax charges. One key feature is the periodic charge, which can be applied every 10 years. Each trust has its own nil rate band, currently £325,000. If the trust’s value exceeds this threshold at the ten-year anniversary, the excess may be subject to a charge of up to 6%.
There may also be tax charges when assets are distributed from the trust. Although these rates are lower than the standard 40% Inheritance Tax rate, trusts still need careful planning and ongoing management.
Whether a trust is appropriate will depend on factors such as the size of the estate, the intended beneficiaries, and how the assets are likely to be used in the future.
Can you still access the money?
A common question is whether it is possible to reduce the value of an estate while still retaining access to the assets. In some cases, trusts can be part of this strategy, but the rules are strict.
If you give assets away but continue to benefit from them, HMRC may treat this as a “gift with reservation of benefit”. In these situations, the assets may still be considered part of your estate for Inheritance Tax purposes.
Certain structures, such as discounted gift trusts, are sometimes used to balance access with estate planning. Broadly, these allow an individual to make a gift into trust while retaining the right to regular withdrawals. However, these arrangements are complex and must be set up carefully to ensure they work as planned.
Not a ‘set it and forget it’ solution
Trusts can be a powerful tool for estate planning, giving you control, flexibility, and possible tax benefits. However, they are not suitable in every situation. Once set up, many trusts are hard, and sometimes impossible, to undo. They also involve administrative tasks and require trustees to fulfil their responsibilities. In general, trusts work best when they’re part of a larger financial plan rather than used on their own.
A broader perspective
With Inheritance Tax thresholds frozen and further changes on the horizon, more people are reviewing how their estate is structured. Trusts can help with this process, but they’re just one of several planning tools you can use. Understanding how trusts work, where they add value, and how they fit with other strategies can help you make decisions that align with your long-term goals.
As with most financial planning, starting early gives you more flexibility and more options in the long run.
William Martin DipFA CeMAP
Managing Director, Southover Wealth
Senior Partner Practice of
St. James’s Place
Tel: 020 8058 8230 |
Mobile: 07487 727 498
