TRUSTEE INVESTMENT GUIDE

Trustee investment is a complex area, but also an important role. This is especially true if you have never been in charge of a trust before. This article is intended as a trustee investment guide, and is designed to help you understand the responsibilities and duties that you will face in your role.

We often find that trusts are created professionally, but then often inexperienced trustees are left alone to run trustee investments. This can lead to significant legal and financial problems, as well as conflict between the parties to the trust.

Key points:

Trusts – general principles

The role of a trustee is necessary to ensure that the assets of a trust are properly looked after. This section gives an overview of the general principles you need to know for your role as a trustee. If you are considering trustee investment then you should take account of all these principles for your trust.

What is a Trust?

A trust is a legal way to allow ownership of assets away from an individual or a company. A trust is simply another way to hold assets. Trusts may be used to control how assets are used, or to save tax.

There are various types of trust, and each operates differently.

Trusts can be set up during a person’s lifetime, or after they have died.

Trusts are set up for a number of reasons, and this can often lead to the need for trustee investment:

What are Trusts used for?

Control

Often trusts are created as a way to control how assets are used, even once the money has passed from the original owner. For example, many trusts are created in wills. This means that the assets passed from the will to a trust can be controlled to some degree by the deceased person. The trust is a way for the person who created the will to establish how those assets will be used after their death.

Trusts can be set up during a person’s lifetime. Broadly, that person will give up the ownership of the assets placed into the trust, but will use the trust as a way to control how those assets might be used.

Protect assets

Trusts can be a way to protect assets. This is related to control, as the trust might be a way for the person who set it up to ring-fence how that asset is treated in the future. This protection might apply to the lifetime of the individual, or continue after their death.

Saving tax

Trusts are often set up as a way to legally save tax, particularly inheritance tax. This is a complicated area, and can lead to additional tax in other areas.

Trusts used to be more effective for saving tax, but Governments have generally brought the taxation of trusts into line with personal assets, often at the worst tax rates available. This clearly removes one of the historical reasons for setting up of trusts to save tax.

Protecting vulnerable people

Trusts are a useful way to protect the interests of vulnerable people, either because of physical or mental disability.

Some trusts may be a way to manage the money of someone who is not capable of managing their own affairs.

Other trusts, such as personal injury trusts, are a way of separating the personal assets of an injured person away from a financial settlement received as a result of a personal injury. This is effective as a way to allow the injured person to continue to receive means-tested state benefits.

Passing assets during a person’s lifetime

Trusts can be used to pass ownership from a person to a separate legal entity during their lifetime. This may be for a variety of reasons, such as to keep control over those assets, to protect the interests of a person or group, or to possibly save tax.

Trust Definitions

Trusts are complicated legal entities, so you trustees need to be aware of some of the key definitions.

Settlor

The settlor is the person who puts assets into the trust, and is usually the person who set up the trust. Usually the settlor would decide how the assets placed into the trust should be treated. Settlors can also be trustees and beneficiaries under trusts.

The settlor might be someone looking to protect their family assets, to look after the interests of someone, or to save tax.

Settlors can potentially benefit from trust assets, although trusts are often set up for the benefit of others.

Trust deed

In most cases, trusts are formed using a trust deed (or will).

This is a legal document that sets out the rules of the trust, and what the trustees can and cannot do with trust money. The trust deed is very important to trustees, since it governs their rights and responsibilities.

Trustee

Trustees are the legal owners of the trust assets. Settlors and beneficiaries can also be trustees of trusts. The trustees are responsible for looking after the interests of those entitled to benefit from the trust (the beneficiaries).

Trustees deal with the assets held in the trust according to the wishes of the settlor, as contained in the trust deed or will.

Trustees manage the trust, and keep appropriate records of their decisions.

This might include making decisions around trustee investments, or paying appropriate tax for the trust.

Trustees can change, but the trust must always have at least one trustee.

Beneficiaries

The beneficiaries are those people entitled to benefit form trust assets. Settlors and trustees can also be beneficiaries of a trust.

Beneficiaries can be:

• One person
• A number of named people
• A wider group of people (a class of beneficiaries)
• A charity
• A pet

What benefits are allowed for the beneficiaries is determined by the trust deed, and sometimes the discretion of trustees. Typically beneficiaries might receive:

• Income from the trust
• Capital from the trust
• Both income and capital from the trust

Trust assets

Trust assets can be pretty much anything of value. Trust assets are known as trust property. When we refer to trustee investment we mean investing trust assets with the intention of generating capital growth or income for beneficiaries.

Trust assets can include:

• Cash
• Property
• Investments (shares, bonds, funds etc)
• Pension scheme death benefits
• Life insurance proceeds
• Other assets

Main types of trust

Bare trusts

Bare trusts are the simplest form of a trust. A bare trust names a specific beneficiary, who is absolutely entitled to receive all of the income or capital of a trust at any stage if they are aged 18 or over.

Bare trusts are often a simple way to pass money from one person to another, for example via a will.

Bare trusts are often used to hold assets destined for children. For example, money left to underage children might be preserved in a bare trust until they become old enough to manage the assets for themselves.

Other types of trust, such as a personal injury trust, can be a bare trust. This means that the trust can be wound up at any stage.

Bare trusts are treated as assets of the beneficiary if they die. This means that bare trusts are passed according to the will of a beneficiary if they die.

Example of a bare trust

John creates a will, which states that his bank account worth £100,000 should be left to his daughter Stephanie, who is aged 7. The will stipulates that Stephanie can take control of the money from age 18. When John dies soon after, the will creates a bare trust for the benefit of Stephanie. The trustees would manage this money until she decides to take control, at any stage after she reaches age 18.

Bare trust issues

Bare trusts are attractive due to their relative simplicity, and certainty. However, this leads to a lack of flexibility and discretion on the part of trustees. For example, in the above example Stephanie could take ownership of the trust assets on her 18th birthday and the trustees would probably be powerless to prevent this, even if they disapproved of her plans for the assets.

Bare trust considerations for trustees

Bare trusts are relatively straightforward to manage for trustees. Your role will be to manage the trust assets according to the wishes of the settlor, and to distribute the assets at the right time.

Interest-in-possession trusts (Life interest trusts)

Interest-in-possession trusts are also known as Life Interest trusts. Interest-in-possession trusts stipulate that the income of the trust should pass to beneficiaries as soon at it arises, for a specific period. In many cases, the Interest-in-possession trust will create a right for income for certain beneficiaries, and a right to capital for another class of beneficiaries.

If the Interest-in-possession trust grants a right to income from life for a certain beneficiary, this is known as a life interest trust. The beneficiary entitled to the income is known as the “life tenant” of the trust. The beneficiary entitled to receive the capital after the life tenant’s death is known as the “remainderman” of the trust.

Interest-in-possession trusts are often used to provide for one class of beneficiary, while preserving the interests of another.

Example of an Interest-in-possession trust

Sophie and Conrad are married, but Sophie has children from a previous relationship (Rebecca and Nathan). Sophie is concerned that if she dies Conrad might remarry and could disinherit Rebecca and Nathan. Therefore, Sophie writes a trust into her will leaving an Interest-in-possession trust. She names Conrad as the life tenant, and Rebecca and Nathan as remaindermen in equal shares. After Sophie’s death, Conrad is entitled to receive the income from assets of the trust until his death. After Conrad dies, Rebecca and Nathan will be entitled to receive the remaining capital.

Interest-in-possession trust issues

Interest-in-possession trusts are often favoured by settlors as a way to ensure that their ultimate wishes are followed. Interest-in-possession trusts are typically used to balance the needs of a partner, while ensuring that children end of getting the deceased’s estate. However, after the death of the settlor the beneficiaries of Interest-in-possession trusts are rarely content with the arrangements. The life tenant (often the surviving partner) can only receive an income from the trust. This will have little flexibility, and means that they probably cannot access capital in the way they might have previously done. The remaindermen, often children, might have to wait many years, or decades for their share of the capital.

Interest-in-possession trust considerations for trustees

The trustees of an Interest-in-possession trust will need to follow the wishes of the settlor, while balancing the needs of the life tenant and remaindermen. This is a difficult challenge, especially as Interest-in-possession trusts can cause conflict between different generations and classes of beneficiaries. In particular, trustees will need to carefully consider the needs of all current and potential beneficiaries. This can cause conflict, since your decisions will have an impact on the income or capital that different types of beneficiaries will be likely to receive.

Let’s return to our example (above). Imagine that Sophie has died, leaving behind Conrad, who is aged 45. Rebecca is 25, and Nathan is 20. Sophie’s assets will pass to the Interest-in-possession trust, and Conrad will be entitled to the income, but not the capital from the trust. This means that Conrad will have little flexibility to use the assets, and the investment decisions made by the trustees must balance Conrad’s income needs, with preserving and growing the capital assets for Rebecca and Nathan. Given that Conrad is aged 45, the trust could feasibly run for another 40 years, and possibly longer. Rebecca and Nathan will have an eye on the growth of their capital, but may be frustrated that they cannot access this capital without reducing Conrad’s income. Where all parties agree, some changes can be made to the terms of the life interest trust, and it may be possible to distribute capital to beneficiaries. However, this should only be done with careful legal advice.

If you are a trustee of an Interest-in-possession trust, you will need to be keenly aware of the competing interests of the different classes of beneficiaries, and make appropriate investment decisions (probably with professional investment advice).

Discretionary trusts

Discretionary trusts are the most flexible type of trust. Instead of appointing specific beneficiaries, who are absolutely entitled to receive capital and/or income, discretionary trusts appoint a class of beneficiaries, who could potentially receive benefits according to the discretion of the trustees. This means that beneficiaries of discretionary trusts do not have any absolute rights to assets of the trust, and can only receive income or capital if trustees make that decision. Settlors usually stipulate how much discretion trustees are allowed under the trust by writing a separate “letter of wishes”. This will set out some guidelines for the settlor’s expectations of how the trust assets should be used.

Discretionary trusts are subject to the rules set out in the trust deed. Typically, trustees have discretion over the following:

• Which beneficiaries receive payments
• How much, and when payments are made

Discretionary trusts often appoint a wide class of potential beneficiaries, such as the spouse, children, and grandchildren of the settlor. Discretionary trusts may set out default beneficiaries, who could be towards the front of the queue for consideration by trustees. However, the trustees of discretionary trusts should always take into account the wider needs of all potential beneficiaries when making their decisions.

Discretionary trusts are a way to keep assets available to wider groups of family, or to preserve the interests of potential beneficiaries who are not responsible or capable to manage money.

Example of a discretionary trust

Martin has calculated that he has a large value of assets, which he does not need, and wants to make a gift to benefit his family in the future. He gives away £300,000 to a discretionary trust (which incidentally is a Chargeable Lifetime Transfer for Inheritance Tax). He wants the following people to potentially benefit from the discretionary trust: his wife Simone, and his 2 children Sarah and Rasmus. Rasmus has a physical disability that means that he is unlikely to be able to manage his own financial affairs. The trust is set up with Martin and Simone as trustees, so they have control over the assets. After Martin’s death, other trustees could be appointed, perhaps Sarah. The discretionary trust is written to benefit Martin’s spouse, his children, and potential further heirs, such as grandchildren. Martin also writes a separate letter of wishes to the trustees to ask that they pay special attention to Rasmus’s physical needs, and this letter will have a bearing on the decisions of trustees when distributing assets in the future.

Discretionary trust issues

Discretionary trusts are attractive because of their flexibility. However, discretionary trusts have greater responsibility for trustees, given that they need to take into account the needs of all beneficiaries. Discretionary trusts have more complex and costly tax implications than other types of trust.

Discretionary trust considerations for trustees

Trustees of discretionary trusts will need to consider how and when to distribute assets or income from the trust, to whom, and when. This brings a greater level of responsibility, especially given competing needs and interests of different potential beneficiaries. As the tax implications of discretionary trusts are more complicated, these decisions should be taken with great care.

Other trusts

The 3 trusts outlined above are the most common types. However, other types of trust exist, although we have not considered these in depth for this article.

How to set up a trust

Trusts created in someone’s lifetime

Many trusts are created during a settlor’s lifetime. The settlor will arrange for a trust deed to be drafted. Once set up properly, this deed creates the legal mechanism for the trust to exist. The settlor would gift assets to the trust, which could have implications for Inheritance Tax. Once these assets have passed to the trust, they cease to be owned by the settlor. This means that the asset now placed in the trust are treated as legally separate from the assets of the settlor. If the settlor later wanted to use the assets, they could only do so within the terms of the trust deed. Therefore, transfers of assets to trusts should only be done with care. The trust should be effective if the settlor later became bankrupt (but probably not if the gift to the trust was intended to shelter money from bankruptcy).

Passing assets after death

Trusts can be created on the death of someone, usually through their will. These trusts are often known as “will trusts”.

Trusts created by statute

Some trusts are created by statute (by law). For example, a common type of trust is set up if someone dies without a will. For example, in certain situations trusts might be set up to protect the interests of non-adult children.

Trustee responsibilities, duties & powers

Trustees have a number of important responsibilities that are set either by law, or by the trust deed. Essentially, there are a number of trustee responsibilities that must always be managed. Others can be relaxed by the trust deed. In the absence of specifications about trustee duties in the trust deed, then the law sets out minimum requirements. If you are considering trustee investments then you are likely to be responsible for trust assets for a long period of time – years or decades. You should understand and apply these trustee responsibilities carefully. Trustee responsibilities is another way of saying trustee duties. Trustee duties are essentially the same as trustee responsibilities.

You have a variety of important trustee powers to manage and control assets conferred by the trust deed, or by separate legislation. These trustee powers give you the ability to take decisions on behalf of the beneficiaries.

The Trustee Act 2000

The Trustee Act 2000 is the main legislation relating to trustee duties and powers, and it has particular relevance to trustee investments. There are other related pieces of legislation.

The Trustee Act 2000 imposes some important duties and responsibilities on trustees. In general, these cannot be taken away by the provisions of the trust.

The Trustee Act 2000 is important to trusts since it provides the default rules for the trustee investment decisions. The Trustee Act 2000 also provides the rules for certain duties and responsibilities of trustees. If your solicitor drafts your trust correctly they will likely create additional powers beyond the provisions of the Trustee Act 2000.

The powers of the Trustee Act 2000 will only come into play if a trust is not drafted well. The rules surrounding the duties and responsibilities of trustees cannot be taken away.

Trustee Act 2000 – powers which cannot be delegated

• Decisions over how to distribute trust assets to beneficiaries
• Decisions surrounding fees or payments
• Appointing trustees

Trustee Act 2000 investment powers

The Trustee Act 2000 gives much wider powers for trustee investment than were available in previous legislation. Now there is a power in place giving trustees the ability to invest as if they were the absolute owners themselves.

This is a much wider provision than was contained in previous legislation. Of course you may wish to restrict this power. If so, the trust deed could be set up with a much narrower range of trustee investment powers. This would override the Trustee Act 2000 provisions. So for example, a settlor could stipulate that you would only allow the trust to invest in land, or in regulated investments.

Action:

• Review whether the trust extends or restricts the powers dealt with in the Trustee Act 2000

Duties and responsibilities imposed by the Trustee Act 2000

The Trustee Act 2000 imposes some important duties and responsibilities on trustees. In general, these cannot be taken away by the provisions of the trust.

We consider some of the main duties of the Trustee Act 2000 in the sections below:

The Trust Deed

The trust deed is usually the most important document for trustees. This is the legal document that forms the terms of the trust, and is designed to set out the key trustee responsibilities. The trust deed can extend the duties and responsibilities of trustees, and can also allow trustees to have wider powers than they might have otherwise had.

Duty to understand the trust deed

Trustees must obtain a copy of the trust deed, and have a duty to understand the terms, duties and responsibilities. If you are a non-professional trustee, it is likely that you will need to do some research and learning to ensure that the legal and tax terms are understood by all trustees. Of course, you can take professional advice to help trustees to understand the trust deed. In particular, the trust deed will set out the parameters for your trustee investments.

Action:

• Read the trust deed carefully
• Make notes of areas you do not understand, and seek advice from an appropriate professional adviser
• Discuss queries with other trustees

Duty to follow the terms of the trust deed

The trust deed sets out the rules and powers of the trust, so trustees must comply with these duties and directions as set out in the document. If a trustee acts outside of the terms of the trust deed they are in breach of the trust. This could lead to legal action against the trustee.

Action:

• Read the trust deed carefully
• Make notes of areas you do not understand, and seek advice from an appropriate professional adviser
• Discuss queries with other trustees

Duty to act unanimously

In general, trustees should act unanimously, unless the trust deed specifies that this is not required. When making decisions about trustee investments or distributions to beneficiaries you may find yourself in conflict with the views of other trustees. It can be difficult to come to unanimous decisions as trustees.

If trustees disagree, this can cause problems with the management of the trust. In severe cases, this can cause the trust not to function properly. Legal advice can help you to resolve disagreements between trustees. Ultimately, Courts can make decisions if trustees are unable to come to an agreement.

Action:

• Create a process for making decisions with other trustees
• Record these decisions using minutes of meetings signed by all trustees

Typical trust deed powers

Trust deed powers typically cover:

• Administration
  Powers and instructions relating to how the trust should operate. For example, the trust deed will probably set out how trustees can be appointed.
• Distribution of trust assets
  Powers and instructions relating to how the trust should distribute capital and income to beneficiaries.

Action:

• Discuss trust powers with all trustees
• Agree general understanding of proposed distributions of capital and income

Keeping trust records

Trustees have a general duty to keep up-to-date records of their decisions and the administration of the trust. Therefore, it makes sense to keep appropriate summaries of important discussions and decisions. This can be done with minutes of meetings, which are signed by all trustees. In the event of a future information request, or a conflict, these records will be consulted to prove that the trust deed was applied correctly.

Action:

• Appoint a trustee with responsibility for keeping trust records
• Create a filing system for trust records
• Allow all trustees access to these records

Following the wishes of the settlor

The settlor’s main wishes will be established in the trust deed. However, they may also write a separate document called a “letter of wishes”, although this will not be binding on the trustees (in comparison to a trust deed, which would be binding).

A letter of wishes is often used by the settlor to set on record additional instructions to the trustees for how the trust assets should be used with regard to trustee investment, especially when exercising discretionary powers. Letters of wishes can include instructions on a number of subjects such as how to invest trust assets, or other administrative powers.

Trustees should regularly ask the settlor to update their letter of wishes.

Example

Jade set up a discretionary trust which is designed to look after the interests of her husband Ralph, plus her children Stanley (aged 25) and Linda (aged 16). The trust has wide powers to benefit a larger class of potential beneficiaries such as grandchildren and other family members.

Jade wants to ensure that Ralph gets precedence in the trustees’ considerations, but also that Linda’s education is properly funded after she dies. Therefore, she writes a letter of wishes to the trustees to set out the general priority of instructions:

1. Her first priority is to her husband Ralph
2. Subject to this, Linda’s education should receive funding

Action:

• Review any additional documents such as a letter of wishes
• Agree a general policy with other trustees for matters contained in the letter of wishes
• If the settlor is still living offer them a chance to review their instructions periodically

Looking after the interests of beneficiaries

The most important role of a trustee is to look after the interests of all beneficiaries of the trust.

Duty to act impartially

Trustees must balance the interests of beneficiaries in an impartial manner. This is important, since the needs and interests of beneficiaries can often compete. Trustees should take care not to allow one beneficiary to benefit at the expense of another.

Example – Interest in possession trust

John set up a trust to benefit his spouse Sarah, and their children Simon and Mark. John wanted Sarah to receive income from his assets for life, and then for Simon and Mark to receive the capital equally after Sarah dies.

In this example, Sarah is entitled to receive income from the trust assets for life (she is the Life Tenant). Naturally, Sarah would want her income to be as high as possible, and to increase over time. Simon and Mark are not entitled to income, but would want to preserve the capital value, and for this to rise over time. This could lead to a conflict between the interests of Sarah and her children. If the trustees wanted to, they could set up investments with a greater income; however, this might be at the expense of capital growth over time.

This is a delicate balancing act, and financial advice can often help trustees to balance the needs of beneficiaries. This can help trustees to demonstrate that they have considered both sets of beneficiaries equally.

Example – discretionary trust

A discretionary trust tends to have a wider class of beneficiaries, such as the settlor’s spouse, children, and grandchildren.

Trustees have a wide discretion to make distributions to any potential beneficiaries. However, when doing do, they should not ignore the interests of the other beneficiaries. For example, Victoria set up a discretionary trust for the benefit of her wider family. However, she has one daughter, Sheila, who has a disability that requires additional financial support. The trustees might be justified to distribute money to Sheila in greater proportions than other beneficiaries; however, they should take care not to support Sheila without considering the needs of the other beneficiaries.

Action:

• Discuss all beneficiaries with the other trustees
• Consider the rights of each beneficiary and their wider needs where you have discretion

Duty to provide information to beneficiaries

Trustees must keep clear and accurate records of their decisions, and appropriate tax records. Trustees have a duty to provide relevant information to the beneficiaries if they request this data.

Trustees should inform all beneficiaries of their interest in the trust, once the beneficiary reaches age 18.

Action:

• Allow access to date to beneficiaries if requested

Conflicts of interest

A trustee should not make a profit from their role. Trustees are able to receive payment for expenses incurred in their duties, and professional trustees can charge for their services. However, a conflict of interest could happen in the event that a trustee makes a decision that ultimately benefits them over beneficiaries. This is a difficult balance if you are both a trustee and a beneficiary.

Trustee conflicts of interest are taken into account in the STEP provisions.

Action:

• Create a mechanism for recording and paying expenses for trustees.

Trustee statutory duty of care

The Trustee Act 2000 imposes a duty on trustees to act in the best interests of the beneficiaries of the trust. Trustees should not profit from their office (although beneficiaries can be trustees, and expenses can be paid). Trustees should act impartially between different classes of beneficiaries. This is particularly important where certain beneficiaries are entitled to income from the trust, and others are entitled to the capital. Professional trustees have a higher degree of standard to meet under the Trustee Act 2000.

Under this duty of care trustees must exercise skill and care as is reasonable given the circumstances and the knowledge and experience of the trustee. Therefore, under the Trustee Act 2000, a family member trustee would have a lower standard to meet than a professional trustee, unless they have special skills.

This statutory duty of care can be excluded from trusts created after 2001, but a general duty of care would still exist.

Action:

• Consider how this duty of care applies to your role as a trustee.

Trustee duty to obtain and consider advice

The Trustee Act 2000 stipulates that trusts should obtain and consider proper advice. This means taking advice from an appropriate expert. In the case of the set-up of the trust, this would be a solicitor. The tax treatment might go to an accountant or tax adviser. In the case of trustee investment decisions, a properly authorised financial adviser should be consulted. This is particularly relevant when considering the need to diversify investments and to review them.

If trustees plan to advise the trust within their role, they should be suitably qualified and authorised to do so. Trustees or advisers providing investment advice should be authorised and regulated by the Financial Conduct Authority.

There may be cases where it is reasonable for trustees to ignore this. This might be the case if the costs of advice outweigh the benefits.

The STEP provisions provide some limitation of the liability for trustees when taking legal advice.

Action:

• Consider whether you will need advice in the following areas:
  • Legal (for example trust powers and rules)
  • Accountancy and tax
  • Financial advice – investments held within the trust
• Record your decision, and the basis of this decision.

Power to invest

Trustees are required to act prudently to preserve and grow trust capital, and to look after the needs of all beneficiaries.

The trust deed may confer particular investment powers, but without this trustees can invest in investments as if they were absolutely entitled to the assets of the fund.

The starting point for trustees is that you should invest trust assets, to balance the short-term and long-term needs of the beneficiaries. Bank accounts alone will rarely be suitable trustee investments.

The STEP provisions give trustees wide discretion over how they can invest.

Action:

• Consider whether you will need to invest assets as part of your role. Other duties set out in this section will be relevant if you decide to set up trustee investments with cash on behalf of beneficiaries.

Power to delegate

Trustees have the power to delegate some of their responsibilities, although this does not apply to key decisions such as the distribution of assets to beneficiaries.

One example is that you can delegate the management of trustee investments, such as through the services of a financial adviser. This delegation can only be done with a proper written agreement giving guidance to the agent. It is common for trustee investments to be delegated to regulated financial advisers.

Trustees can also delegate most functions, perhaps if a trustee becomes unavailable for a period.

The STEP provisions give trustees permission to delegate their functions in writing.

Action:

• Consider whether you intend to delegate some responsibilities, particularly trustee investments
• Create a document setting out the parameters for trustee investments managed by a professional adviser.

Duty to diversify trustee investments

Under the Trustee Act 2000 all trusts should pay attention to the diversification of their investments. This typically means that you should ensure a good spread of trustee investments. It would be rare that proper diversification would take place in a trust investing in just one asset class such as bank savings.

The STEP provisions reinforce the requirement to diversify trustee investments.

Read more about investment diversification.

Action:

• Consider whether you have properly diversified trustee investments. Take account wider factors such as the goals of the trust, investment powers, the needs of the beneficiaries etc.
• Consider whether trustees are qualified to act in this area, or whether you should engage a qualified investment adviser
• Record and review your decisions.

Duty to ensure trustee investments are suitable

Under the Trustee Act 2000 all trusts should ensure that the investments made are suitable. This means paying close attention to the provisions of the trust and the appropriate balance between the various needs of the different beneficiaries entitled to capital or income. Particular attention should be paid to the amount of money to be invested and the risks to be taken with investments.

Action:

• Consider your trustee investment decisions and the suitability in relation to the goals of the trust. Examine your trustee investment powers, the need for capital or income, the needs of the beneficiaries etc.
• Consider whether the trustees would benefit from investment advice from a qualified adviser
• Record and review your decisions.

Duty to review trustee investments

Trusts and tax

The tax of trusts is complex, and onerous. Generally, the tax paid by trusts is the most expensive rates paid by individuals. This means that the previous tax benefits of holding assets in trust have been removed.

The taxation of trusts depending on the type of trust, and the assets held within the trust. Whether the settlor is still alive will have a bearing on whether the tax falls on the trust or not.

The tax of trusts influences the choice of trustee investment plans. This section outlines the main tax paid by the majority of trust types.

Trusts & Income tax

Within trusts, income tax will be payable on trustee investments that generate the following income types:

• Interest from bank accounts, gilts or corporate bonds
• Rental income
• Dividends from shares and collective investments
  Trust dividends do not qualify for the £500 allowance available to individuals.

Bare trusts

The beneficiary of a bare trust is responsible for the income tax on any income received by the trust.

Trustees are responsible to ensure that the beneficiaries receive the income due from the bare trust. The beneficiaries are individually responsible for declaring this income to HMRC via self-assessment.

Interest in possession trusts

Interest in possession trusts usually pay income to a certain class of beneficiary.

“Mandating” income to the beneficiary

If the trust passes this income directly to the beneficiary, then the trust does not need to pay the income tax. This method means that the beneficiary reports the income tax directly to HMRC through self-assessment.

Trust receiving income

If the interest in possession trust receives the income rather than mandating this to the beneficiary then the trust becomes responsible for the tax on the income as with discretionary trusts (see below).

• Dividends pay income tax starting at 8.75%
• All other income pays income tax starting at 20%

Discretionary trusts

Trustees are responsible for the income paid by discretionary trusts. A discretionary trust does not pay income tax on the first £500 of income. If a settlor has created multiple discretionary trusts then this £500 is divided by the number of trusts held, with a minimum of £100 tax free allowance for each trust.

Trust income up to £500

No income tax is paid.

Trust income over £500

• Dividends pay income tax at 39.35%
• All other income pays income tax at 45%

Investment bonds

It is common to hold investment bonds within discretionary trusts, as this type of asset is treated as a non-income producing trustee investment asset. Income tax is treated as paid within the investment bond at 20%.

Withdrawals from an investment bond can create an additional income tax charge in complex scenarios, known as a chargeable gain. These chargeable gains are taxed against the settlor while they are alive, and the trust after the settlor’s death. However, the trust is liable for the tax paid by the discretionary trust, so if the settlor pays the income tax, this is treated as a further gift to the trust.

Vulnerable beneficiary trusts

Special rules apply to income tax for vulnerable beneficiaries. See below.

Trusts & Capital gains tax

Trusts are responsible for capital gains on the sale or disposal of certain assets. This might include:

• Trustee investments such as shares, gilts, corporate bonds, or collective investments
• Property

Trustees are usually responsible for paying Capital Gains Tax on gains within the trust, or on distribution of the assets to the beneficiaries.

Bare trusts

There is no Capital Gains Tax to pay if assets held by the trust are transferred into the name of the beneficiary.

Interest in Possession trusts and Discretionary trusts

You can read more about how Capital Gains Tax works here. This page sets out the position for individuals, but the key differences for trustee Capital Gains Tax are set out below.

Capital gains are calculated by working out the sale price of a trustee investment, less the purchase price of an asset, less allowable expenses (such as professional fees, and property improvement costs).

Trustee Capital Gains Tax Annual Exempt Amount

The first £1,500 of a trust’s gains in a tax year are tax-free. This is half the standard individual Annual Exempt Amount. This allowance reduced from £3,000 in 2023/24.

This Annual Exempt Amount is £3,000 if the beneficiary is treated as vulnerable (such as a disabled person, or a child whose parents has died). This higher Annual Allowance may apply where there are multiple beneficiaries, even if only one is treated as vulnerable.

Trustee rate of Capital Gains Tax

Capital gains for trusts, which are greater than the Annual Allowance, are taxed at 24%.

Trustee Capital Gains Tax reliefs

Trustee Capital Gains Tax may be lower in the circumstances set out below:

• Private residence relief
  If the trust property sold is the main residence of a beneficiary allowed to live there under the terms of the trust, then trustees pay no Capital Gains Tax.
• Hold-over relief
  Trustees can pass assets directly to beneficiaries without paying Capital Gains Tax. The capital gains from the date the assets were acquired by the trust would be passed over to the beneficiary.

Vulnerable beneficiary trusts

Special rules apply to capital gains tax for vulnerable beneficiaries. See below.

Trusts & Inheritance tax

Inheritance Tax is generally due on an individual’s estate when they die, or pay assets into certain types of trust during their lifetime.

For trustees Inheritance Tax is generally payable in relation to discretionary trusts at 10-year anniversaries, and on transfers out of the trust.

Bare trusts

Transfers from a settlor into a bare trust are treated as potentially exempt transfers. Any Inheritance Tax is potentially exempt, and fully exempt after 7 years. Any Inheritance Tax is paid by the settlor’s estate.

Interest in Possession trusts

There is no Inheritance Tax payable on assets transferred into these trusts before 22^nd March 2006.

For assets transferred into the interest in possession trust after this date a 10-yearly Inheritance Tax charge may become due. There is no Inheritance Tax due provided the asset stays in the trust and remains the interest of the beneficiary.

Discretionary trusts

Trustees of discretionary trusts are most likely to have to pay Inheritance Tax during the lifetime of the trust.

10-year anniversary

Trustees of discretionary trusts must pay an Inheritance Tax charge on every 10-year anniversary of the date the trust was set up, if your trust contains “relevant property” over the value of the Inheritance Tax threshold. Relevant property is assets such as money, shares, or property.

This calculation is very complex, and you will probably need to take specialist tax advice to help you with this issue. Read more about the 10-year anniversary charge here.

Inheritance Tax exit charge

There could also be an Inheritance Tax exit charge for discretionary trusts. This is payable when assets transfer out of a discretionary trust, or the trust comes to an end. This is a complex calculation. You can read more about the exit charge here.

You can read more about Inheritance Tax and trusts here.

Vulnerable beneficiary trusts

Special rules apply to inheritance tax for vulnerable beneficiaries. See below.

Taxation of trusts – summary

You can see a summary of the taxation of trusts in the table below.

Vulnerable beneficiary trusts

Special rules apply to tax for vulnerable beneficiaries. See below.

Trust tax returns

Trustee tax returns are required for all trusts that need to declare tax. This may include income tax, Capital Gains Tax or Inheritance Tax.

Trusts & anti-avoidance measures for income tax

UK trusts are subject to anti-avoidance measures to ensure that settlors do not avoid paying the income tax they would otherwise need to pay.

Settlor interest in trusts

These anti-avoidance rules come into play when a settlor or their spouse retains an interest in the trust. If this applies then the trust assets are treated as if they are still owned by the settlor for calculation of income tax. This means that the settlor will retain liability for income tax at the highest rates on any income received by the trust.

This can be avoided by using non-income producing assets such as investment bonds (see below).

Trusts for the benefit of children

If a settlor creates a trust for the benefit of an unmarried minor then this can create a liability to income tax under the anti-avoidance rules. For example, if a settlor creates a discretionary trust for the benefit of their children and the trustees pay income to a child, then the settlor will still be liable for the income tax on that money while they are still alive. It may be possible to accumulate income within a trust to avoid income tax until a later date.

Trusts for vulnerable beneficiaries

If a trust has been set up for the benefit of a vulnerable person, it can apply for special tax status. Vulnerable people can have various disabilities.

Definition of a vulnerable beneficiary

A vulnerable beneficiary is either:

• Mentally or physically disabled; or
• A child under the age of 18, whose parent has died. This is known as a “relevant minor”.

Trustees can apply for a special tax status against income tax and capital gains tax.

Qualifying trusts for vulnerable beneficiaries

To qualify for the vulnerable beneficiary status, the trust must only be capable of being used for the benefit of a disabled person. Essentially, the disabled person should be entitled to all of the income from the trust, or at least that none of the income from the trust could go to someone else. It is possible for part of the trust fund to qualify for vulnerable beneficiary status if that part if held separately.

Trustees should make a “Vulnerable person election” by completing form VPE1 and registering this with HMRC. Trustees should complete a form for each vulnerable beneficiary. Trustees and the vulnerable beneficiary should sign the form, unless the beneficiary is not capable to do this. If this is the case, the person who is legally allowed to sign for that beneficiary can sign the form.

The vulnerable person election must be made no later than 12 months after the 31st of January following the year when it is due to begin. The election will cease if the vulnerable beneficiary dies, or ceases to be vulnerable.

Income tax for vulnerable beneficiary trusts

Trustees can reduce the tax they would have otherwise paid.

• Trustees should calculate the tax due according to the rules of that type of trust. This will vary according to the tax status of the trust.
• Trustees then calculate the income tax due as if the income would have been paid direct to the beneficiary, instead of the trust.
• Trustees can claim a reduction in tax due between what the trust pays and what the beneficiary would have paid. Effectively, this reduces the trust’s tax to what wold have been payable by the beneficiary.

Capital gains tax for vulnerable beneficiary trusts

Trustees can reduce the capital gains tax paid in a similar way to the income tax reduction.

• Trustees should calculate the tax due to the trust, based on trustee rates.
• Trustees then can calculate the capital gains tax due as if in the hands of the vulnerable beneficiary without the trust.
• Trustees can claim a reduction in tax due between these figures. Effectively, this reduces the tax paid by the trust to be what the beneficiary would have paid.

Inheritance tax for vulnerable beneficiary trusts

The qualifying status for inheritance tax is different. To qualify as a vulnerable person trust, it must be:

• Set up for a disabled person before 8th April 2013, and at least half of the payments from the trust go to the disabled person during their lifetime; or
• Set up for a disabled person from 8th April 2013, in which case all payments from the trust should go to the disabled person (apart from £3,000 per year, or 3% of the assets if this is a smaller figure).

There is no inheritance tax due if the settlor survives for 7 years from the date of the gift. The gift is treated as a potentially exempt transfer.

Transfers out of a trust to a vulnerable beneficiary also avoid inheritance tax.

For discretionary trusts the vulnerable person  is treated as having an interest in possession. this means that the trust will be treated as part of their estate for tax purposes. No 10-year periodic charges apply to the trust, but inheritance tax could be paid when the vulnerable beneficiary dies.

Trustee investments

Trustees are often responsible for managing long-term investments for the beneficiaries. This can be a daunting task, especially if you have never been responsible for such a large amount of money before. Some trustees choose to take less risk than they should as a result of a fear of losing the money they have a responsibility over. However, this can be a mistake, with far-reaching consequences. See below for more information on how to approach trustee investment plans you might make as a trustee.

The aims of the trust

When considering a trustee investment, you should first consider the aims or goals of the trust. This consideration goes hand in hand with general investment planning.

There is much more to investing money than this article can explain. If you follow the link below you can read a much more in-depth examination of general investment principles on how to invest money. This article explores the most important concepts and principles of investing, of which all trustees should be aware.

When investing as a trustee you are effectively looking after the long-term interests of the beneficiaries. To choose a trustee investment for the trust you should consider the following:

• The goal of the trust
  What is the main purpose of the trust? Some trusts are designed to provide for wide and diverse needs over time, and so the choice of trustee investments needs to be flexible enough to cope with this.
• The potential beneficiaries of the trust
  Consider the needs, age and overall position of each beneficiary in their own right, and without bias.
• The potential term of the trust
  The length of time the trust is likely to run will have a large impact on your choice of trustee investment assets.
• Income or growth
  The choice of trustee investments for the trust will depend on whether you need to provide income or occasional withdrawals for the beneficiaries. The type of trust will determine this selection. For example, an Interest in possession trust must provide an income and capital growth for different beneficiaries.
• Taxation
  Each trust type is taxed differently, so you should be careful to choose the right type of trustee investment to match the tax paid by the trust. The beneficiaries and even the settlor can be affected by your investment decisions, so choose the tax wrapper wisely.

Investments & general trustee duties

When choosing a trustee investment strategy you will need to take account of your general duties:

• Keeping records
• Making unanimous decisions as trustees
• Keeping to the terms of the trust deed
• Acting impartially
• General duty of care

Trustee Investment powers

You may have wide trustee investment powers if the trust was drafted by a solicitor.

Alternatively, you may find your trustee investment powers to have some restrictions, especially if the trust was not created in this way.

Make sure that the proposed investments are appropriate for the powers that you have been granted.

Investment specific trustee duties

Trustee duty to obtain and consider advice

The Trustee Act 2000 stipulates that trusts should obtain and consider proper advice. This means taking advice from an appropriate expert. In the case of the set-up of the trust, this would be a solicitor. The tax treatment might go to an accountant or tax adviser. In the case of trustee investments, a properly authorised financial adviser should be consulted. This is particularly relevant when considering the need to diversify investments and to review them.
There may be cases where it is reasonable for trustees to ignore this. This might be the case if the costs of advice outweigh the benefits.

Duty to diversify trustee investments

Under the Trustee Act 2000 all trusts should pay attention to the diversification of their investments. This typically means that trustees should ensure a good spread of investments. It would be rare that proper diversification would take place in a trust investing in just one asset class such as bank savings.

Duty to ensure trustee investments are suitable

Under the Trustee Act 2000 all trusts should ensure that the investments made are suitable. This means paying close attention to the provisions of the trust and the appropriate balance between the various needs of the different beneficiaries entitled to capital or income. Particular attention should be paid to the amount of money to be invested and the risks to be taken with investments.

Trustee duty to review investments

You are required to review your trustee investment decisions under the Trustee Act 2000. This means that you cannot simply set up an investment and walk away. Those investments are likely to change and therefore need to be reviewed in light of the provisions of the trust and the needs of the beneficiaries.

Choosing the right tax wrapper for trustee investments

The choice of tax wrapper for your trustee investment assets can have a major impact on the long-term effectiveness of the trust and its ability to meet the aims set out by the settlor. There is not one solution for all trusts, so trustees should carefully consider their options, taking into account all the information available to them.

If you choose the wrong tax wrapper, you may find different problems, as set out below.

Bank accounts

Every trust should have a bank account, to deal with the general expenses of the trust. For example, a trust would typically have to pay any of the following:

• Distributions of capital to beneficiaries
• Income to beneficiaries
• Expenses of the trustees
• Tax of the trust
• Fees for advice (accountant, solicitor, financial adviser)

Trustees should consider how much cash you want to hold, given the short-term and long-term needs and aims of the trust. If you hold too much cash, the value of that account could erode over time due to the effects of inflation, and general low interest rates.

Generally, we recommend that a trust holds enough cash to cope with its short-term needs and plans – perhaps for the next 12-24 months. If there is capital greater than this figure, then you should consider investing this money to aim for greater capital and income growth over time.

Advantages of bank accounts as a trustee investment

• Easy access
• Capital does not fall in value

Disadvantages of bank accounts as a trustee investment

• Low (or nil) interest rates
• Loss of value over time due to the cost of inflation

Property

Often trustees consider property for their trust. Property can be appropriate as a source of income, and for long-term capital growth. However, there are general management issues to consider, plus the costs of running a property, as well as the tax payable for renting a property. This can be expensive for a trust. See this article for more information.

Advantages of property as a trustee investment

• Regular income
• Capital growth over time

Disadvantages of property as a trustee investment

• Additional costs of management
• Dealing with tenants and maintenance
• Higher tax especially for discretionary trusts
• Harder to access capital

Investments

When we advise trustees on investing, we typically recommend a widely-diversified investment portfolio within an appropriate investment wrapper designed to reflect the tax status of that trust.

This meets the needs of almost all trusts as trustees can diversify their investments, take appropriate advice, and take flexible income or capital withdrawals as appropriate.

The investments are made in the name of the trust with trustees being joint signatories to the account.

General investment accounts

Typically, we recommend general investment accounts for bare trusts or interest in possession trusts. General investment accounts tend to have lower tax and charges than other investments, and allow for maximum flexibility and choice. General investment accounts tend not to be appropriate for discretionary trusts, since they are likely to generate an income, which will be taxed at higher rates within the discretionary trust.

Advantages of a general investment account as a trustee investment

• Regular income
• Capital growth over time
• Lower administration and convenience
• Wide choice of investments
• Flexibility
• Easy record-keeping

Disadvantages of a general investment account as a trustee investment

• Cost – management and advice fees
• Tax

Investment bonds

We often recommend investment bonds for discretionary trusts. Investment bonds are less flexible than general investment accounts, and are more complex. However, the major advantage for a discretionary trust is the fact that the investment bond is treated as a non-income producing asset for tax purposes. This means that discretionary trusts can potentially avoid paying the high rates of tax levied on them. However, investment bonds do pay some income tax (at 20%) within the product.

In some cases a discretionary trust can have lower projected tax by using a general investment account. This assessment depends on a variety of factors, which are particular to each trust. The decision may rest on the expected income from the portfolio, and the tax status of the discretionary trust; for example, some discretionary trusts can apply for a rebate of income tax if they manage assets on behalf of a vulnerable person. This can be a complex decision, so taking advice is often recommended.

Advantages of an investment bond as a trustee investment

• No income (for discretionary trusts)
• Capital growth over time
• Lower administration and convenience
• Wide choice of investments
• Flexibility
• Easy record-keeping

Disadvantages of an investment bond as a trustee investment

• Cost – management and advice fees
• Tax
• Complexity

Financial advice for trustees

One of the responsibilities for trustees is to consider whether it is necessary or appropriate to seek professional advice. This may be legal advice, tax advice, or wider financial advice. We are experienced in providing financial planning and investment management for trustees, and are well-placed to help you to deal with all your responsibilities relating to trustee investment decisions.

Longevity of trust funds

Financial planning can help trustees to establish the impact on the trust fund of spending, income and future capital distributions, taking into account the trustee investment choices open to you. In general terms, investing wisely as trustees should allow you to extend the lifetime of the trust funds.

Choosing the right trustee investment

Once the trust is set up properly, you are likely to need to choose the right trustee investment to meet the goals of the trust, and the needs of the beneficiaries.

We can help you to evaluate which type of investment to choose, according to the type of trust and the goals of the trust.

Investing wisely

It is important for trustees to invest with the needs of all beneficiaries in mind. We can help you to review your trust’s future requirements and make suitable recommendations within the powers of the trust. This includes the important requirement to diversify trustee investments to spread risks.

Capital or income?

The terms of the trust will determine whether income is required or appropriate for the trust. We can help trustees to balance the competing needs of beneficiaries within the terms of the trust deed.

A suitable trustee investment plan can be recommended to help trustees to keep within their responsibilities. If you make the wrong decisions with trustee investments you may find that you inadvertently favour one beneficiary over another.

Managing the trustee investments

Trustees are responsible for managing the investments of the trust properly and efficiently. By working with a financial adviser experienced in investment management for trusts you can ensure that your trustee investments will be managed efficiently.

Reviewing trustee investments

You cannot simply set up a trustee investment plan and then leave this in place. You are required to review your trust’s investments regularly. Our investment management service reports values to trustees every 3 months, schedules an annual review to make and record appropriate decisions. You can also review values at any stage using our client portal.

At each review we will create a comprehensive investment management report, examining the existing investments, making recommended portfolio changes, and adjusting to the evolving needs of the trust.

Keeping records of trustee investment decisions

Trustees should keep careful records of all decisions. Our trustee investment management service is designed to allow a proper process to keep track of these discussions. Our reports will provide a suitable record of trustee reviews and agreed actions.

Tax on trusts

Trustees will need to consider and pay tax as appropriate. Our trustee investment management service is designed to help trustees to avoid tax where possible, and plan for tax where this must be paid. We can liaise with your accountant and tax advisers to ensure that your tax records are properly maintained.

Contact us about trustee investments

If you have any questions about your role as a trustee, particularly if you are interested in trustee investment advice, then please feel free to contact us.

You can also view our trustee resources, including our free mini guides:

• Mini guide to managing another person’s assets
• Mini guide to dealing with an illness or personal injury

You can also check out the pages relevant to:

• Managing another person’s assets
• Dealing with an illness or personal injury
• Personal injury trusts