As estate planning or wealth management advisors, we often encounter historic trusts in practice. However, there seems to be a popular misconception that trusts are less relevant in a modern context. This thinking may derive from the fact that trusts are less attractive for resident and domiciled individuals as a tax mitigation device. In this note, we set out the key features of a trust and where, in practice, we see a trust offering considerable value as a wealth planning device.
What is a trust?
A trust is legally binding agreement created by a settlor (the owner of the assets) who transfers some or all of their assets to an individual person or organisation (trustee) to manage the assets for the benefit of another (beneficiary).
A seminal feature of the trust is that the settlor is divesting themselves of their personal ownership of the assets.
The trustee holds and manages the trust assets, but their authority to deal with those assets is constrained by the terms of the trust and their duties as a fiduciary. A fiduciary is someone who owes a duty of good faith which in this case is owed to the beneficiaries of the trust. The beneficiaries of a trust have a right of action against the trustees if the trustees breach their fiduciary duties.
In fact, the essential feature of a trust is that, by creating a trust, a settlor has divested themselves of assets previously held personally, from which many of the benefits from holding assets in a trust arise.
Typically trusts are no longer attractive from an income tax / capital gains tax perspective for Irish resident and domiciled individuals. Offshore trusts may still be used by Irish resident but non-domiciled individuals, subject to management of the relevant anti-avoidance provisions.
A correctly structured and well administered trust may produce tax planning advantages. For example, assets can be passed to a suitably drafted interest in possession trust to trigger an immediate event for capital acquisitions tax (“CAT”) purposes, but defer the date upon which beneficiaries may become absolutely entitled to capital. Discretionary trusts can also be used as an asset holding vehicles, pending maturing of beneficiaries and / or the qualification for capital tax reliefs in certain circumstances.
Trust structures can be used to keep confidential the connection of trust assets to a particular class of beneficiaries.
A trust is a sophisticated way of managing the assets of a deceased individual. For example, a trust could ensure a suitable education is provided for the settlor’s children, but restrict access to capital until later in life. It can ensure that an individual’s accumulated wealth is not transferred to a single generation, but could be structured to ensure assets are preserved to accumulate and provide for family members over successive generations. Further, as noted in the paragraph below, it can provide a useful vehicle to warehouse value for those beneficiaries, where an outright benefit is not appropriate.
Protecting the vulnerable
A trust may provide for those who are unable to manage their own affairs such as children, improvident adults, the aged, or severely incapacitated individuals. Indeed, in certain cases, tax legislation provides for specific tax exemptions for trusts for such individuals.
Asset protection – financially challenged
Asset protection describes effective wealth planning by employing lawful strategies for preserving and shielding assets from creditor claims.
Of course, such planning and transfers to trusts is properly subject to scrutiny in this jurisdiction under provisions of the Bankruptcy Act 1988, the 2009 NAMA Act and the 2009 Land and Conveyancing Law Reform Act, which enable gifts into trust to be set aside if the actions by a settlor were in breach of duties to creditors.
Quite apart from creditor claims, where individuals may not operate their business with the benefit of limited liability, they may look to alternative asset holding structures to protect their wealth in the event of other litigation claims. Indeed in the United States there has been the historic practice of individuals in the medical profession establishing asset protection trusts to protect their wealth where it would otherwise be exposed in the event of claims, unprotected by a professional indemnity insurance policy.
In circumstances where individuals are financially challenged, it does not make commercial sense for value to accrue in their personal names. For example, a trust may be a useful vehicle to hold shares in a new commercial enterprise that may accrue significant value into the future.
Furthermore, it has been our experience in practice that many financially challenged individuals are likely to inherit money from family members. Where a person who has no obligations to creditors is planning their estate, the same analysis and principles apply. Such a person is entitled to plan their estate in a manner to provide for their beneficiaries. A trust could be included in such person’s will to effectively skip the financially challenged generation. This requires careful and considered drafting to achieve the required result. It may provide flexibility and opportunity for a challenged individual to benefit in turn from the trust, if their financial circumstances change for the better into the future.
Although trusts may still provide tax advantages depending on the residence and domicile status of the individuals in question, more often than not, where a settlor and beneficiaries are Irish tax resident and domiciled, the most significant tax advantages that accrue from trusts are for capital tax purposes.
However, in many cases, the preservation of capital is the primary objective. The trust itself has evolved over time to meet the demands of commercial life. As noted in the commentary above, it is an essential attribute of an individual divesting themselves of personal ownership of assets and passing it to trustees, from which flexibility and commercial advantages accrue.
What we are seeing in practice is the trust changing to meet the demands of changing settlor concerns – therefore, one might properly say, “the trust is dead - long live the trust”.