Life Interest Trusts

What is a Life Interest Trust?

A life interest trust is a trust arrangement which is created to provide a beneficiary or beneficiaries the income from its fund whilst reserving capital for someone else.

Is it known by any other names?

You may see a Life Interest Trust referred to as an ‘Interest in Possession’ (IIP), an ‘Immediate Post Death Interest’ (IPDI), a ‘Bloodline Trust’, an ‘Income Trust’ and in relation to property, a ‘Right of Occupation’.

What is meant by income and capital?

Every asset you own will have an income and capital component. For example, a property’s capital would be its beneficial title while its income could be the right to occupy or its rental receipts depending on how the property is used; investment portfolios would have the stocks and shares representing capital and the dividends as income; and cash in the bank would be capital with the interest it makes being the income. If an asset does not produce a financial return, its income is most likely the use of that asset.

Are there key terms I need to know about?

Settlor: the person creating the trust;

Life tenant: a person with the income benefit;

Remainderman: a person who will receive a share of the capital once the life interest comes to an end.

How long does the trust last?

The trust lasts until the life tenant dies or the trustees unanimously decide to bring an end to the trust sooner. Some trusts are written to have certain events trigger an automatic end to the trust, this could be the life tenant’s cohabitation or remarriage for example.

How is the trust taxed?

It is usually taxed on the life tenant for income tax as income is usually mandated to the life tenant for ease of administration. For capital gains tax it will be taxed according to the rates relating to trusts. For inheritance tax, if the trust was created by a person’s Will, the fund will sit in the life tenant’s estate for IHT (unless it is a successive life interest). Otherwise, it will be treated as relevant property and taxed for IHT in the same way as a discretionary trust.

Can any asset be placed into the trust?

It is possible to place all of your assets or specific assets into a life interest trust, however some assets will not be able to retain their original form e.g. ISAs and pensions. Only assets held solely upon death will be able to pass into a life interest trust. This means as part of the trust planning, joint assets such as property will need to be ‘severed’ beforehand and held as tenants in common instead. The decision as to what should be transferred to a life interest trust is a decision based on an assessment of the balance between the desire for protection for the remaindermen and the freedom of the life tenant during their lifetime; the more protection you have the less freedom the life tenant enjoys. Capital is protected by a life interest trust by having to obtain the approval of all trustees in relation to capital specific decisions; the life tenants therefore will find themselves having to make decisions on your assets with whoever you choose to appoint in your Will.

When are they used?

They are typically used in Wills to protect assets from a beneficiary’s future circumstances whilst providing financial security through income (and capital should the trustees decide to do so). This is often preferable when couples are concerned about long term care fees, remarriage or where they are already a blended family, the survivor deciding to change their Will to benefit their own bloodline. Not using a Life Interest Trust in these instances leaves the ultimate inheritance of your bloodline to chance.

For assistance with your setting up a Life Interest Trust, please contact our Wealth Protection team on 03333 058375 or email WealthProtection@psg-law.co.uk