Should you give away your money now, and risk falling short later down the line – or keep it and face a substantial inheritance tax (IHT) bill? This is a dilemma faced by thousands of people trying to decide how to organise their estate.
But there is a middle ground. By using a little-known trust-based strategy, you can move a lump sum outside your estate for IHT purposes, while retaining the right to a regular income for life (or until funds run out).
For those reluctant to hand over their assets outright, one of these trusts offers a way to reduce a future tax bill without having to relinquish control completely.
Adam Vanstone, a chartered financial planner at Chester Rose, added: “It can be a useful option for people who want to start planning around their IHT exposure, but who aren’t in a position to lose full access to their investment.”
While these trusts can be useful for tax planning, their inflexibility could become an issue.
What sets a discounted gift trust apart?
With this type of trust, you’ll invest a lump sum, usually via an investment bond.
Daniel Hough, a director at wealth manager RBC Brewin Dolphin, said: “You retain the right to receive a regular fixed withdrawal, typically around 5pc of your original investment each year. Crucially, these withdrawals are a return of capital, rather than income.”
These fixed payments will continue for the rest of your life – whether you want them or not. There is no flexibility to change them once the trust is in motion.
Rachael Griffin, a tax and financial planning expert at Quilter, said: “Be aware that the amount you take – and frequency of withdrawals – is set at the outset and generally cannot be changed.”
When you die, any money remaining in the trust will be given to your beneficiaries without having to wait for probate. You can also make specific requests over how, and when, the money is distributed. Mr Vanstone added: “As the gift is made into the trust – rather than to the ultimate beneficiaries – there is control over the timing and amounts they receive.”
The “discount” element refers to how much of the lump sum is considered outside your estate as soon as it’s put into the trust. This will be determined at the outset, subject to your age, health, and the amount of income you are taking.
Mr Vanstone said: “This means a percentage of the amount gifted is immediately outside of the estate for IHT purposes, with the remainder requiring the donor to survive for seven years from the date the gift was made. The longer the ‘income’ is expected to be paid, the larger the upfront discount will be.”
Investment growth on the trust fund will not be included as part of the estate, and the rest of the money will also leave your estate if you do survive seven years after setting up the trust.
