Bare Trusts for Children: Future Inheritance and Income Tax

Many parents and guardians prioritise Setting up a financial foundation for their children. One effective method to manage and safeguard assets for future generations is through a Bare Trust. This type of trust is not only straightforward to set up and administer but also provides potential tax benefits, particularly in minimising future inheritance and income tax liabilities.

Understanding Bare Trusts

A Bare Trust, also known as a Simple Trust, is where a trustee holds the assets (such as money, investments, or property) that belong outright to the beneficiary. The beneficiary is entitled to all income generated from the trust assets once they turn 18 (in the UK). The trustees manage the trust until the beneficiary is of age to take control of the assets.

Key Features:

• Simplicity: Trustees hold the assets on behalf of the beneficiary, who has an absolute right to both the assets and the income generated from them.
• Transparency: There are no complicated trust arrangements, and the beneficiary’s identity is clearly established from the outset.
• Control: Trustees oversee the assets until the beneficiary reaches adulthood, ensuring that the assets are managed appropriately.

Tax Implications: One of the significant advantages of using a Bare Trust is the favourable tax treatment it can offer:

1. Income Tax: All income from the trust assets is taxed as if it belongs to the beneficiary. This is helpful if the beneficiary does not pay taxes or has a lower tax rate. Each year, the beneficiary can use their personal allowance (currently £12,570), which can greatly lower their tax costs.
2. Capital Gains Tax (CGT): When trust assets are sold at a gain, the CGT liability also falls on the beneficiary, who can utilise their annual CGT exemption (£12,300 for the 2021/2022 tax year). This arrangement often results in lower tax charges compared to if the assets were owned by an adult taxed at higher rates.
3. Inheritance Tax (IHT): When you give gifts into a Bare Trust, these gifts are seen as Potentially Exempt Transfers (PETs). If the person who gave the gift lives for seven years after making it, the assets in the trust do not count as part of their estate for Inheritance Tax (IHT). This makes Bare Trusts a great option for estate planning.

Setting Up a Bare Trust:

Establishing a Bare Trust involves a straightforward process:

• Select Trustees: Typically, parents or close family members.
• Draft a Trust Deed. This document outlines the trust’s terms, the beneficiary’s details, and the trustees’ responsibilities.
• Transfer Assets: Once the trust deed is executed, assets can be transferred into the trust.
• Documentation and ongoing management are minimal, focusing mainly on ensuring that the investments or assets are managed in line with the trust’s objectives and for the beneficiary’s benefit.
• Control: When the beneficiary turns 18, they gain full control over the trust’s assets. This change may not match what the original trust creators intended.
• Tax Planning: Good tax planning for the trust is important to make sure the beneficiary pays the least amount of tax possible each year.

Bare Trusts are a good option for parents and guardians who want to protect assets for their children while reducing inheritance and income taxes. They are simple to set up and tax-efficient, making them great for easy estate planning.