Are trusts the new pre-nups for wealthy families?

With parents becoming more concerned about losing family wealth to the in-laws in case of a divorce of their children, trusts can come to the rescue, write Desmond O’Donnell and Stuart Price

Pre-nups are still prevalent in the HNW world as a useful tool to protect assets in the event of the breakdown of a marriage, but families who are increasingly concerned about the fallibility of the institution – considering that almost 42 per cent of marriages end in divorce and that the average marriage lasts no more than twelve years – are looking for a more foolproof alternative. New research by Investec has found that a third of parents are unwilling to provide financial help or leave an inheritance to their married (or soon to be married) child, and that around 13 per cent of survey participants have now considered setting up discretionary trusts instead.

Investec has also seen a rise in the number of clients contacting them to seek advice about what steps can be taken to reduce the risk of capital assets leaving the family if, for example, their child’s marriage were to end in divorce, and a discretionary trust can be a useful means to protect wealth should there be a future divorce within a family. This is because they were concerned about family wealth falling into the hands of their child’s spouse when matrimonial assets are divided at the time of divorce.

The research also shows that approximately one in six parents now prefer to assist their offspring financially by making small financial gifts to them to help them meet their day-to-day living expenses, rather than giving them a larger lump sum. Indeed, some parents have gone even further by skipping a generation and leaving assets to their grandchildren.

Subject to previous gifting, each parent may gift up to £325,000 into a discretionary trust without an immediate Inheritance Tax (IHT) charge. If each parent survives for seven years from the date of the gift, the assets will be outside of the combined estate for IHT purposes. The parents will normally appoint themselves as the trustees and they will have complete control of the trust assets. They will also decide who the discretionary beneficiaries of the trust will be. They might choose their children and grandchildren at the outset, with trust provisions allowing further discretionary beneficiaries to be added later.

Furthermore, parents, as trustees, can decide to transfer property out of the trust to their children (or grandchildren) as they feel appropriate. No beneficiary has an absolute right to any part of the trust property and so the parents may distribute at their discretion. Such distributions may have tax consequences, depending on the value of the assets in the trust at the date of the transfer. It is not uncommon for families to wind up a trust only a few years after establishing it, if they are satisfied that their child is more financially responsible or that their child’s marriage is now more secure.

If the trust continues, as parents grow older, they will need to consider retiring as trustees and appointing replacements. These may be trusted friends, advisers or even the children themselves, although appointing children may affect how a court views the ownership of the trust property in financial remedy proceedings. Whoever is chosen, it will often be beneficial for parents to write a letter of wishes, outlining why they established the trust, how they would like the trustees to exercise their powers and what circumstances might warrant the winding up of the trust. This letter will assist future generations of trustees.

In the light of these findings, it is now likely that many families will be advised to consider setting up a discretionary trust to achieve the same result as a pre-nup. Indeed, the parents of those intending to marry, may increasingly take the initiative on behalf of their offspring to protect their family’s wealth, which, of course, may lead to a whole new set of problems.