Five reasons for placing one’s trust in – well, trusts

Many people are baffled by trusts, the purpose of which they don’t fully comprehend. Some even regard them with suspicion, as tools of of opaque tax evasion strategies of a type favoured by wealthy individuals.

Here, David Cooney, partner and head of Private Client & Trusts with Ogier’s Cayman Islands office (pictured), details five reasons they remain an essential tool in wealth managers’ tool kits, none of which has to do with tax evasion. 

For many the word “trust”, when used to describe a type of asset-holding device, has recently become synonymous with “tax reduction”, or even “avoidance.” This perception, in fact, has driven changes to trust legislation around the world.

In some cases the changes have introduced taxes on trusts, their settlors and even their beneficiaries that can only be described as penal.

In 2011, for example, France introduced rules which treat a beneficiary of a discretionary trust – despite having no vested interest in the trust income or capital – as the “settlor” of that trust. And as a “deemed settlor”, that beneficiary is liable to pay tax in France, calculated by reference to the value of the trust fund, even though that beneficiary may never receive anything from it.

Yet in spite of such changes, trusts continue to be used by many of the world’s wealthiest families, because, in actual fact, trust planning is rarely all about tax planning.

Here, we look at five reasons why the trust is still alive and well, in spite of the usually well-intentioned but typically uninformed efforts of lawmakers to use it as a tool for going after wealthy tax evaders.

1. Probate avoidance

In most places, if someone dies while owning an asset, there is a formal process to follow. In the common law world, such as the UK and its overseas territories, this involves obtaining a Grant of Representation (called a Grant of Probate if the deceased left a valid will).

In some places this post-death process is very quick. In other places, it takes months to complete, and is an expensive and complicated process. Assets can be, and often are, frozen while the Grant of Representation is obtained; but this can be problematic where volatile investment assets are owned, as values can fall dramatically while those due to inherit are forced to wait for the Grant of Representation to be processed.

Trusts, though, allow these time-consuming post-death processes to be avoided.

If a person sets up a trust in their lifetime and puts their assets into that trust, when they die, the trustee of the trust is then seen to own those assets, and so a Grant of Representation is not required with respect to them. A Grant might still be required for any of the deceased’s assets that weren’t included in that, or any other, trust.

Interestingly, this strategy is much-used in the Cayman Islands, one of the world’s most popular investment fund domiciles. Here, it’s extremely common for investors to set up trusts to own their investments in funds, with the sole purpose of avoiding the need for a Grant of Representation upon their death.

2. Succession Planning

Family businesses often struggle, and sometimes fail, after the head of the family which owns them dies, and the business passes to the next generation.

Although there are many reasons why this might happen, one that lawyers see fairly often is when the succession planning is not considered during the life of the matriarch or patriarch. Typically, it’s only after the death of the first generation that the second generation begins to take a role in the running of the family enterprise, and the management of the family wealth.
And all too often, this second generation lacks the skills and experience to do so properly.

Trusts can provide a solution to this common problem, by enabling the second generation to begin getting involved in the family business while the family’s matriarch or patriarch is still alive.

The nature of the role played by the second generation will depend on the level of control that the first generation are happy to cede. One arrangement that seems to work well is when the second generation is made part of an “advisory council” to the business. In this role they can be given specific roles and responsibilities, the nature of which can change as they settle into their new roles.

3. Ownership and Control

Another use for trusts that also has to do with family businesses comes into play when the second generation wants an assurance that they, and not some outside party, will receive the family business when the first generation dies.

This matters because the second generation typically want to make sure that the time they devote to the business’s development while the first generation is still on the scene – which can span decades, during which they might be building a career elsewhere – will not have been wasted.

At the same time, an elderly matriarch or patriarch may be reluctant to give up control of the business during their lifetime, as this comes with a (perceived or actual) loss of social and familial status.

Trusts, which allow for ownership and control to be separated, can be the perfect solution in such cases. The matriarch or patriarch can retain a significant degree of control over the family business, while allowing the second generation to benefit from the certainty of knowing that the business will be preserved for them.

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