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Take the bypass

A recent article on the merits of placing offshore investments in trust drew a comment from a leading IFA which indicated that planning for beneficiaries was not the role of the IFA.

As a self-confessed ano-rak, I have been looking at this issue in some depth and have some bad news – we may not be advising the beneficiaries but we still owe them a duty of care.

Recent decisions have reinforced my views, in particular the case of Gorham

BT (Court of Appeal 2000). This would seem to have a major effect on the level of care that needs to be exercised.

In this case, a life office sold a personal pension to an occupational pension scheme member, it was decided that both the provider and the employer operating the occupational pension scheme owed a duty of care to the member&#39s dependants.

In summary, the occupational scheme owed a duty of care for not ensuring that he understood the loss of dependants&#39 benefits by leaving the scheme and the provider owed a duty of care for not pointing out the lower dependants&#39 benefits under the personal pension plan.

I still recall a case where a direct salesman had convinced a solicitor to effect a policy for £1m but neglected to place it under trust. The solicitor then died prematurely without having made a will.

The resulting problems and the inheritance tax that was paid could all have been avoided if the trust had been put in place at outset.

Provided that there are trustees appointed in addition to the settlor, then the monies could have been paid out without delay.

So for IFAs to ignore trusts could be a grave error. One leading protection office told me that only 3 per cent of their non-mortgage related term insurance is written in trust.

This means that for this single provider there is£10bn not in trust or £4bn in IHT to be paid.

I would contend that it would not be difficult for a dependant to prove negligence where no trust was put in place or at least recommended in the reason-why letter and/or report.

Let us look at one area where trusts can add significant value and help to demonstrate the value of professional advice. Since the introduction of income withdrawal, the topic of death benefits has seen many column inches devoted to the explanation of the various options on the death of the planholder.

One of those options affords the spouse access to the lump sum death benefit. This is attractive but it means that on the death of the spouse the lump sum will form part of the spouse&#39s estate.

Just as using income withdrawal allows the planholder to retain a significant lump sum death benefit free of IHT, using a trust that takes effect on the planholder&#39s death can mean that the lump sum will not form part of the spouse&#39s estate for IHT purposes either. Just as important is that it will not be assessed for long-term care.

The type of trust that I am advocating is sometimes called a spousal bypass trust.

The trust in question is a discretionary trust and if the member dies before vesting the benefits then the death benefit can be paid into discretionary trust, the income and capital can then be paid at the trustee&#39s discretion to the surviving spouse/partner or children.

The trust will not form part of discretionary beneficiaries&#39 estates for IHT or be treated as capital for long-term care.

The trust can lend to beneficiaries creating a debt on their estate so reducing their IHT liability.

The trust can accept other assets, for example, those qualifying for business property relief or within members&#39 nil-rate band.

The trust can be created on or after he/she becomes a member.

The alternatives include a trust created via member&#39s will, where the death benefit passes through member&#39s estate and IHT may be payable.

The spousal bypass trust can be used for:

Personal pensions.

Section 32.

Income drawdown.


Phased retirement.

Retirement annuity.

Although it is possible to nominate benefits from occupational schemes to this trust such as executive pensions and occupational pension schemes (subject to their rules), this would mean that the trust could only run for a maximum period of 21 years after the death of the member.

Provided that the planholder is in good health when the trust is set up, on the death of the planholder, the death benefits are paid into the trust.

The trustees have two years to distribute death benefit with no IHT implications.

If benefit is retained in the trust after the two years from death of the member, the trust becomes subject to 10-year anniversary charges. This is based on the date the member joins the scheme and not when it is placed in trust. This will be nil if it falls within two years of the planholder&#39s death.

There will only be a 10-year anniversary charge if actual death benefits are held in trust. Therefore. there is no IHT charge until after the member&#39s death, and it could be 12 years before any tax is payable.

For example:

Member joins scheme 1/1/85.

10-year charge 1/1/1995 – tax nil.

Dies 3/1/2003.

10-year charge 1/1/2005 – tax nil.

10-year charge 1/1/2015 – tax payable.

The examples, which follow, explain the effect the trust can have in a variety of situations.


Mrs Brown&#39s husband has just died leaving her the following:

His one half of house £240,000

Sale proceeds from his 25% in ABC Ltd.


Other assets £300,000

Personal pension death benefit £250,000

Total £1,090,000

Her own estate is valued at £350,000

If Mrs Brown dies, her

IHT liability would be:

Estate inherited

from husband £1,090,000

Her estate £350,000


Less nil-rate band £242,000


IHT @ 40% £479,200

However, if personal pension death benefit was subject to spousal bypass trust, £250,000 would be removed from Mrs Brown&#39s estate as follows:

Mr Brown&#39s estate £1,090,000

less personal pension

death benefit £250,000


Her estate £350,000


Less nil-rate band £242,000


IHT @ 40% £379,200

Not only is this an IHT saving of £100,000, she can also have full access to capital and income if required.

If Mr Brown had not only arranged for his personal pension death benefit to be paid into a spousal bypass trust but also directed his share in ABC Ltd and a nil-rate band via his will. the IHT liability on Mrs Brown&#39s death would be:

Mr Brown&#39s estate £1,090,000

Less personal pension

death benefit


Shares in ABC Ltd £300,000

Nil rate band £242,000 £792,000


Mrs Brown&#39s estate £350,000


Less nil-rate band £242,000 £406,000

IHT @ 40% £162,400

IHT saving of £316,800

Mrs Brown can have full access to capital and income if required. Can you get better than this?

Now consider where the trust loans Mrs Brown £200,000:

Mrs Brown&#39s estate

on death £648,000

Less loan repayment

to trust £200,000


Less nil rate band £242,000


IHT @ 40% – IHT due £82,400

IHT saving of £396,800

If this has whetted your appetite for getting involved with trusts, make sure that you obtain, read and understand the documentation and have your answers ready. Clients can become enthused with a device which goes a long way to meeting many of their needs with regard to their dependants, trust me.


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