A bare trust, sometimes known as a simple or absolute trust, is the most basic type of trust. It occurs when a settlor (the person who puts assets into a trust) transfers assets into trust for the trustees to hold for a specified beneficiary until they reach the age of majority. In this article, how does a bare trust work, we take a look at these issues in more depth.
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How does a bare trust work?
When you establish a Bare Trust, you name particular beneficiaries who have an absolute right to the trust’s revenue (often interest) and capital. They are typically employed for minors who lack the legal competence to assume legal title on their own.
Any youngster under the age of 18 (in England and Wales) or 16 (in Scotland) is typically considered a minor beneficiary. The trustees you have designated are only stewards of the trust assets until your child attains the age of majority.
Bare Trusts are most frequently used to make gifts to children, but anybody can be specified as a beneficiary. However, once they have been named, neither you nor your trustees will be able to alter the beneficiaries. Although a beneficiary of a Bare Trust obtains control of the trust assets upon reaching the age of 18 (16 in Scotland), the Bare Trust does not terminate immediately. When the beneficiary is an adult, the trustee position is more akin to that of a nominee, and they must follow the beneficiary’s instructions about the assets owned.
What are the advantages of a Bare Trust?
There are various advantages to adopting a bare trust over other types of trust, including the fact that it is far less expensive and simpler to establish. In many instances, a trust deed is not even necessary.
Nonetheless, one of the greatest benefits of a bare trust is its tax treatment. For tax reasons, the trust’s assets are treated as though they belong to the child. As a result, in the event of a trust established to pay for a grandchild’s school or university expenses, the grandchild may utilise his or her own yearly personal income tax exemption, personal savings allowance, and capital gains tax exemption.
If the grandchild has no other income and the trust’s income and profits fall within their personal allowance, they should not be required to file a tax return.
Moreover, because the creation of the bare trust is a “possibly exempt transfer” for inheritance tax purposes, the gift should be excluded from the settlor’s estate if he or she survives seven years after the transfer of trust assets. In accordance with the regulations governing taper relief, inheritance tax will be due on a sliding basis if the donor dies between three and seven years following the gift.
This type of arrangement for paying educational fees only works for grandparents, and is not suitable for parents. This is due to anti-avoidance rules meaning there are no tax advantages to parents gifting money via a bare trust.
Are there any disadvantages with a Bare Trust?
The rigidity of the structure of the bare trust is one of the primary disadvantages of this type of arrangement. Once the trust has been established, neither the beneficiaries nor their proportionate share may typically be changed. As the trust has been created only for the benefit of the identified grandchild, there is no flexibility regarding future beneficiaries, nor can the trust be revoked. A contribution given pursuant to a simple trust is irrevocable and cannot be repaid.
The age at which the beneficiary can access the trust fund is also determined. At the age of 18, the beneficiary is automatically and unconditionally entitled to any money or investment left in the trust, and the age of receipt cannot be changed.
For this reason, the bare trust is rarely appropriate for significant sums of money, as the beneficiary would have quick access to the funds and the freedom to spend them on whatever. The trustee has no discretion as to whether to comply with a beneficiary’s request to transfer control of the trust assets to them upon reaching the age of majority.
However, if a bare trust is established to pay for educational expenses and the costs can be projected beforehand, the trust can be adequately funded to cover these expenses, leaving only a little balance by the time the grandchild turns 18.
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It is important for you to be well informed about the issues and possible implications of setting up a Bare Trust. However, expert legal support is crucial in terms of ensuring a positive outcome to your case.
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Disclaimer: This article provides general information only and does not constitute legal advice on any individual circumstances.
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