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#askRL – Discretionary Trust v’s Disabled Person’s Trust

03.08.16

Question:

I know I need to set up a Trust for my daughter who has a learning disability, I’ve heard about both a Discretionary Trust and a Disabled Person’s Trust, but which one do I need?

Answer:

As you probably know, a Trust is the best way of financially providing for a disabled or vulnerable person throughout their lifetime.  A Trust allows for assets (such as property, cash and investments) to be held by trusted individuals (known as Trustees) for the benefit of others, in this case a disabled or vulnerable person (known as the beneficiary or beneficiaries).  It is the Trustees who decide how to use the assets for the benefit of the beneficiaries and they will be governed by any rules set out in the Trust document.

A Trust can be set up to meet your individual circumstances and the needs of your family, in particular, those of your daughter.  The two most common types of Trusts used to provide for a disabled or vulnerable person are Discretionary Trusts and Disabled Person’s Trusts and before you can decide which is best for you, it is important to understand how each works.

Discretionary Trust

A Discretionary Trust involves the Trustees having full flexibility to decide how to use the assets (including the capital and income) for the benefit of the beneficiaries.  The Trustees have full discretion to use the assets in any way to meet the needs of any beneficiaries at any time.

With this type of Trust there must be more than one beneficiary so it would be advisable to include your daughter, along with any other children, wider family and possibly a charity.

None of the beneficiaries have any fixed entitlement to receive money from the Trust and only have a potential right to receive something if the Trustees choose to do so.  This means that the Trust and its assets cannot be taken into account when assessing your daughter’s entitlement to means-tested benefits or Local Authority funding.

So, the advantage of a Discretionary Trust is that the Trustees can make decisions to meet the changing requirements of your daughter during her lifetime.  The Trustees can use their discretion to advance any amounts of capital or income to her depending on her needs at different times in her life.

Although a Discretionary Trust is very useful, the tax treatment is not favourable and needs to be carefully considered. If the value of the Trust exceeds the Inheritance Tax threshold (currently £325,000) there will be an Inheritance Tax charge when the Trust is set up.  There will also be an Inheritance Tax charge every ten years and then whenever a payment is made from the Trust.  The tax rates for Income Tax and Capital Gains Tax are higher in this type of Trust.

Disabled Person’s Trust (DPT)

A DPT is a Trust set up to specifically to benefit a ‘disabled person’ and is largely similar to a Discretionary Trust.

For the purposes of this trust, a disabled person is defined as someone who is:

  • by reason of mental disorder, within the meaning of the Mental Health Act 1983, incapable of administering their own property or managing their own affairs; or
  • in receipt of Attendance Allowance; or
  • in receipt of Disability Living Allowance (DLA) by virtue of entitlement to the care component at the higher or middle rate; or,
  • in receipt of Personal Independence Payment (PIP) at the standard or enhanced rate for ‘daily living activities’.

As with the Discretionary Trust, the Trustees can use the capital or income for the benefit of the disabled person and they have full discretion as to how they do this.

The main advantage of a DPT over a Discretionary Trust is the favourable tax treatment it receives for Inheritance Tax, Income Tax and Capital Gains Tax.  The tax rules need some consideration but, in general, the tax paid in a DPT can be minimal or, in some cases, no tax needs to be paid.

However, you also need to be aware that, in order to qualify for the favourable tax treatment, the Trust must be set up in a way that, during your daughter’s life, the income and capital will be wholly applied for her benefit.  This is subject to a small exception that the lesser of £3,000 or 3% of the value of the trust fund (either income or capital) can be applied to another beneficiary of the Trust in each tax year. 

So, which type of trust is more appropriate?

This will entirely depend on your circumstances and those of your daughter and we would firstly look at some important factors such as:

  • your daughter’s age;
  • the nature and the long-term prognosis of her disability;
  • any benefits and funding she receives;
  • the needs of other family members and the value of your assets.

If your daughter meets the criteria for a Disabled Person’s Trust then we can directly compare the differences between both types of Trust and the implications for your daughter and your family.  A Discretionary Trust is usually more suitable where the tax implications are limited, because the value of the fund is lower and the assets aren’t producing high income or gains, and when maximum flexibility is required to provide for other people.  A Disabled Person’s Trust is used when tax is likely to be a significant problem and there is not a great need to provide for others.

By carefully considering all of the factors, you will be able to put in place the right type of Trust which can provide the long term financial support for your daughter.

Please do not hesitate to contact us to discuss your specific circumstances in more detail.

 

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27 Responses to “#askRL – Discretionary Trust v’s Disabled Person’s Trust”

  1. Margaret Hardley says:

    Will the income or gains of a DPT or distributions from it, reduce means tested benefits?

    • Philip Warford says:

      Dear Margaret,

      Thanks for your question.

      Any income or capital distributions from a Disabled Person’s Trust (DPT) should be disregarded when considering means tested benefits – our Disabled Person’s Trust page may be of help to you. What is usually best is for the Trustees to buy things for the beneficiary, rather than putting cash through the beneficiary’s bank account. So, for example, the beneficiary requests a new TV, the Trustees buy it directly from the supplier using the Trust Fund, and arrange for delivery direct to the beneficiary.

  2. Fiona Horne says:

    Good morning. My husband and I are in the process of writing our Wills. We have a disabled daughter and a younger son. Our daughter receives means tested benefits and support from Local Authority. We would like to leave our daughter a sum of money to be placed she n trust upon both our deaths. Can a fund be set up separately for her alone or does it need to go into a Discretionary Fund. Our concern is hat thre may be Inheritance Tax mplications with this fund and would prefer to use the former Trust.

    • Hi Fiona, Thank you for your question. There are different types of trust that can be used but, for maximum flexibility, a Discretionary Trust would usually be preferable. Any trust arrangement set up only to benefit one person can cause a number of problems, particularly relating to the claiming of means tested benefits and distribution of any remaining funds after the death of the main beneficiary. If tax issues are of concern then it is important to consider whether a Disabled Person’s Trust was relevant due to the more favourable tax treatment. It is difficult to say what would be best for you without having more information about your circumstances but we take various issues into account when considering what would work best for your family

  3. Donna says:

    Hello, myself and my siblings inherited a house from our late mother. It is about to be sold and my disabled brother will be receiving a share of the estate. My mother had requested that his share be put into a trust but she didn’t set one up herself before she died. Is it now possible to set a Disabled Person’s Trust up on his behalf, or would he have to set it up himself? (is that allowed?) He has mental health issues but I think currently he should be able to make his own legal decisions.

    • Donna says:

      Further to the above, my mother didn’t formally write this into a legal will but she did leave a signed document stating her request – could this qualify as a ‘letter of wishes’? And if so, does that make a difference?

    • Hi Donna, thank you for your questions. If your mother left an outright gift of a share of the property to your brother then he will need to deal with the asset. You mentioned that he should be able to make his own legal decisions so it may be possible for him to set up the trust and transfer his share of the estate into it. However, it is important that he is aware of the implications of setting up the trust and the types of trust that can be used. He should also consider the effect of the inheritance on any benefits or funding he may be receiving. We would always recommend taking more detailed advice based on your individual circumstances, as there are often additional considerations.

  4. Pearl Baker says:

    I am informed that a ‘vulnerable beneficiary trust is NOT subject to means testing (Welfare Benefits), entitled to Interest from capital, however having worked in the area of Welfare Benefits, I consider that tax could be an issue if in receipt of Benefits outside of SDA a NON means tested untaxed Benefit No longer, but many are still in receipt of this. Incapacity Benefit is also taxable depending on Income. PIP is non taxable, that leaves Income Support that is means tested.
    I understand there are IHT advantages if it remains under the nil rate tax band, when beneficiary dies. NO IHT to pay.

    I now turn to the Discretionary Trust, tax wise not so good, but does have advantages? need more than one beneficiary. It is best to Purchase any items of Capital Expenditure by a third party, the beneficiary Benefits are effected if you Purchase items that are included in their Welfare Benefits, ie cloths, food services. WATER not included.

    I successfully claimed Housing Benefit by renting out a house I owned, did pay tax, but it was Purchased close to our home. NOT in Discretionary TRUST if it was charges over the nil rate tax band would attract INCREASED Charges plus usual for this type of Trust.

    My question is this: if funds are placed into a ‘vulnerable beneficiary Trust’ where the Interest is paid to the Beneficiary, how is sufficient Interest generated? when you cannot get ‘good rates’ anywhere.? In my opinion it has it’s limitations. Taking into account the nil rate tax band? Who would be responsible for closing the account after death? and should a WILL be made taking into account the Wishes of the BENEFICIARY, who actually owns the CAPITAL as well?

    Discretionary TRUST seem to be more flexible, but more tax to pay.

    COP for ‘Property and Finance’ LA Deputy another issue, the only possible way you can HELP your family member is via a Discretionary TRUST. The COP can’t get their HANDS ON IT.

    As a Carer in the ‘THROWS’ of trying to support help family members it is becoming a ;’nightmare’ Would you agree it is NOT possible to set up a ‘Vulnerable beneficiary Trust’ for someone who is subject to a COP order for ‘Property and Finance’ with a LA Deputy?

    Rather a lot of questions, but getting conflicting advice..

    • Dear Pearl, Many thanks for your post. You’ve raised quite a few points but without knowing everything about what you are trying to achieve it’s a little difficult to give anything more than some general comments.

      When thinking about the investment within a Discretionary or Disabled Person’s Trust we would always suggest to our clients that they seek advice from a Financial Adviser who is experienced in dealing with Trust investments. As you mention, the tax implications need to be fully considered at the same time as balancing income and capital growth. It is then the Trustees of the Trust who deal with the investments, and picking up on one of your questions, it is the Trustees who deal with the investments on the death of the primary beneficiary.

      We would always recommend that the person who creates the Trust puts in place a Letter of Wishes giving direction to the Trustees of what would help the primary beneficiary (see our separate blog post on Letter of Wishes). The person who creates the Trust could put in the Letter of Wishes some general thoughts from the beneficiary him/herself.

      Moving on to your questions about the Court of Protection. If a Property & Affairs Deputy has been appointed to manage the finances of a vulnerable person, the vulnerable person’s money is managed via the Court and so you don’t normally need a Discretionary or Disabled Person’s Trust to manage this money. However, the parents of the vulnerable person ought to consider putting in place a Discretionary or Disabled Person’s Trust to ensure that when they die no further assets pass directly to the vulnerable person.

      I hope that this helps.

  5. Frank Plunkett says:

    Mr Smith share his legacy one third to his son, one third to daughter a, and the other third for daughter b put into a discretionary trust to protect her benefits as she has special needs but only has lower rate of DLA, this is why a discretionary trust was set up but used the son and daughter a, as trustees and beneficiaries along with their kin, a letter of wishes was written asking that that the trustees gave daughter b money incrementally as she wanted and needed it as he had done in the past. It is clear this third was meant for the second daughter but for 16 years she has not received anything, and the trustees refused to provide sight of the accounts and respond to a request for £16k = £1k for each of the last 16 years, this money would have paid for her wedding and restored and refitted the flat she will live in with her partner. The trustees would not show books or make offer until they were threatened with a Part 8, they then offered £1k per annum which was less than the average interest on the account and partial information on the accounts, this was turned down and the original request put forward again this was ignored and a part 8 was served. The accounts were amongst the defendants statement, which showed no cash in the account only an investment in Scottish widows which was not changed for 16 years, the first five years carried heavy penalties on cashing them in…this show no real considerations to daughter b was made as there were no cash to service this requirement of the trustees. On the death of daughter b her brother and sister and their children get the lot……..We have been to court and the judge directed that a new trustee from a solicitor in town near by was used to save costs, but it was pointed out that the solicitor might make a one time distribution of all the funds to all the beneficiaries, all I would add were only there so daughter bs benefits were not affected, to date £15k costs have built up and the defendants want this paid from out of a £38k fund . We have quoted (West v Lazard Brothers (no1) (1987-88) JLR 414) as no accounts were given after multiple requests and a request for same from a solicitor,,,,,We also used Rabaiotti’s Settlements(2000)WTLR 953 where the court concluded that a letter of wishes was closely related to the decision making process of the trustees, the court was also referred to the judgement of Briggs J inBreakspear -v- Aukland & another (2008) Breakspear -v- Ackland & another [2008] EWHC 220 (Ch) where Briggs J said of a letter of wish that ” it is inescapable that their content will potentially be relevant, both to beneficiaries in monitoring the performance by trustees of their fiduciary obligations, and to the court in enforcing that performance where necessary and appropriate.” To date the trustees have made no distribution from the trust at all and as such the Court is requested to intervene to ensure the true purpose of the trust, as shown in the letter of wishes is realised. The Claimant has an extremely strong claim to be considered and the Defendants have not given the requests for funds the weight it deserves having regard to the reason the trust was created.

    With the above in mind and pursuant to CPR 64, PD64A para. 1 (2) (a) (i), PD64A para. 1 (2) (c) and Schmidt v Rosewood Trust Ltd (Isle of Man) [2003] UKPC 26 the Claimant requests the following order be made with costs to be paid by the Defendant’s in person pursuant to West v Lazard Brothers [No 1] [1987-88] JLR 414 and Schmidt v Rosewood Trust Ltd (Isle of Man) [2003] UKPC 26:……..Is this worth hiring a barrister to go back to court in December ?

    • Katherine Miller says:

      Hi Frank, Thank you for your comment. It is not possible for us to say whether it is worth hiring a barrister but there may be some benefit in the claimant discussing the case with a barrister so they can assess the merits of the case, potential problems and costs.

  6. Linda Farrow says:

    Hello my mum left a will stating the house should be sold & all proceeds put in tust for my disabled brother. However the solicitors who hold the will say their is no trust set up. Can I set up a trust for him?

    • Katherine Miller says:

      Hi Linda, Thank you for your comment. The exact wording of the Will determines what action can be taken now. If the wording does not create a trust then it is possible that an absolute gift has been made to your brother. The options available to him would depend on his situation and, although it might be possible to create a trust, there may be issues that need consideration before this can be done. I suggest that you ask the solicitors to confirm the exact wording of the Will. I hope this helps.

  7. Joanne Allman says:

    I am considering setting up a trust for my 17-year-old learning disabled son, who is in receipt of Personal Independence Payment. I would like to use the trust to buy a house for him to live in when he’s older, and negotiate a care package for him with the local authority. In the meantime, I would like to rent the house out. I would prefer the rental income to be accumulated within the Trust, not paid out to my son. I’m not sure whether a Discretionary Trust or a Disabled Person’s Trust would be better for this purpose. The main objective is to protect my son’s mean-tested benefits, both now and in the future. However, when my son moves into the house, we may let a room in the house to another disabled person, for which the local authority would pay rent, so I would also like the Trust to be as tax efficient as possible. Is there any trust arrangement that would meet both of these objectives?

    • Hi Joanne. It is possible to meet your objectives using either trust. The Disabled Person’s Trust is usually preferable from a tax point of view but, the decision as to which option is right for your circumstances, will depend on various factors and we would suggest taking legal advice.

  8. Joanna says:

    Hello, many thanks indeed in advance for your help.
    We have a Disabled Persons Trust set up for my brother. When my grandmother died, her house was transferred into the ownership of the Trust. The house is now rented out and the rental income is going into the Trust but is earning no interest at all.
    Therefore, we’re wondering:
    1. Could the Trust account be transferred to a different bank account that accrues interest?
    – do the terms and conditions of Disabled Persons Trusts allow this?
    – if it is possible, would there be tax implications?

    2. Is there any reason the rental income from the house cannot be diverted from the Trust into a different bank account? As the house, rather than the rental income, is the asset in trust, surely this is allowable?
    – If it is allowable to divert the rental income, would it be advisable to invest a portion of the income in order to fulfil the Trust’s obligation to grow the assets?

    3. Who, if anyone, is checking the Trust is administered ‘correctly’?
    – For example, is there a specific amount by which we are obliged to grow the asset?
    – If so, and we fail to do so, what happens?

    4. If we were to use the accrued rental income in the Trust as a deposit to buy a property, would we be able to use the rental income from the Trust property to offset the mortgage on the 2nd property?
    -Could we put this 2nd property in the Trust too?
    – If the property were sold, would it be subject to capital gains?
    Apologies for the questions – we’ve struggled so much to get any answers about the Trust. The solicitors, banks and financial advisers we’ve worked with seem to know very little about Disabled Persons Trusts and when we set it up, we didn’t receive any documentation with Terms & Conditions or information about the details of how the trust works.

    • Hi Joanna. Thank you for your comment. Unfortunately we are unable to offer specific legal advice on this forum. You have raised a number of questions, all of which relate to your own personal circumstances. Trusts are a complex area, and with assets such as property involved it really is vital to correct to get dedicated advice. There are various factors that would need to be considered and we’d highly recommend you speak to a lawyer about this.

  9. Sally Hobson says:

    Hi there. Quick question. Can the money in a Disabled Persons Trust or Discretionary Trust be used to pay for residential home top up fees. I don’t seem to be able to find the answer. Thank you

    • Hi Sally, a Discretionary Trust gives the Trustees flexibility to apply any of the fund for the benefit of any of the named beneficiaries. Therefore, the Trustees could decide to use funds to pay top-up fees. It is a similar position for a Disabled Person’s Trust but the majority of funds applied must be for the benefit of the disabled person so should be possible if it is the fees of the disabled person that are to be paid. Trustees should always check the provisions of the Trust and consider the position of the beneficiaries before deciding on any payment from the Trust. We hope this helps.

  10. Pearl Baker says:

    do you pay stamp duty on the purchase of a Property for someone who will live in their house under the Disabled Discretionary rules? no other Property involved

  11. Victoria says:

    Good afternoon, I am considering a Disabled child Trust and just wondered whether in your view the disabled beneficiary of the trust would still be entitled to local authority funding for residential care?

    • Katherine Miller says:

      Thank you for your comment. The Disabled Person’s Trust is similar to a Discretionary Trust in that the main beneficiary does not have any right to receive money held in the Trust and only has a potential right to receive something if the Trustees choose to do so. As with the Discretionary Trust, this means that the Trust and its assets cannot be taken into account when assessing the beneficiary’s entitlement to means-tested benefits or Local Authority funding. Any assessment for Local Authority funding will need to include any assets held in your child’s name but does not include any assets held within these types of Trust.

  12. Fay Saxty says:

    Is it legally acceptable for me, as a Trustee and also mother/carer of the vulnerable person, to charge the Trust a fee for my carer services? My tax advisor suggested it should be ok if all the Trustees agree to it, but I should not charge more than £8,400 to avoid the Trust having to set up a PAYE scheme, and the income would become a taxable income for me. Please comment.

    • Katherine Miller says:

      Unfortunately, we are unable to offer specific legal advice on this forum which relates to your personal circumstances. However, you have raised a question which relates to the terms of the Trust you have put in place. The Trustees may have the power to pay for carer services and may agree to pay you for the services and such powers would be included in the terms of the Trust. The issue of your tax position is unfortunately not one that we are able to provide information on.

  13. Thomas Woodhouse says:

    In your information about Discretionary Trusta dated 03.08. 2016 you state that ‘ the Trust and its assets cannot be taken into account when assessing entitlement to means tested benefits or LA funding. Please will you confirm that this is still the case August 2019 and that this applies to people in receipt of Employment Support Allowance.

    • Philip Warford says:

      Dear Thomas,
      Thank you for your comment. The information contained in our blog post of 03.08.2016 is still current law. As regards ESA, this depends upon what type of ESA you receive. Income-related ESA is means tested but the other types are not.



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