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Discretionary Split Trusts 101: Best Guide 2023

Trusts have long been recognized as pivotal financial instruments that empower individuals to manage and allocate their assets efficiently.

Central to a trust are three pivotal roles: the settlor, the trustee, and the beneficiary. The settlor places assets into the trust, the trustee oversees these assets, and the beneficiary is the party that eventually receives them based on the stipulations of the trust.

Among the myriad of trust types available, the discretionary split trust has garnered attention for its distinctive attributes.

Follow this guide to discretionary split trusts and ensure it aligns with your wealth preservation strategies.

If you want to invest as an expat or high-net-worth individual, you can email me (advice@adamfayed.com) or use these contact options.

The Evolution and Popularity of Discretionary Split Trusts

Over the years, the discretionary split trust has seen a surge in its adoption, especially in regions where estate planning and asset protection are of paramount importance.

The rise in its popularity can be attributed to its dual nature, which allows for both flexibility and control, a combination often sought but rarely found in other trust structures.

Defining Discretionary Split Trusts

At its essence, a discretionary split trust is a beacon of adaptability and authority.

The settlor has the liberty to bifurcate their assets, which often encompass life assurance policies or investments, into two separate segments.

While one segment remains firmly within the grasp of the settlor, the other is channeled into the trust for the beneficiaries.

This bifurcation ensures that the assets housed within the discretionary split trust are not considered part of the settlor’s estate when calculating inheritance tax.

This can lead to significant tax savings and is a primary reason many opt for this trust type. The discretionary facet of this trust is equally compelling.

It grants trustees the autonomy to determine the distribution mechanics – how, when, and to whom the assets should be allocated.

The Modern-day Relevance of Discretionary Split Trusts

In today’s complex financial landscape, the discretionary split trust continues to be a preferred choice for many.

Its structure is particularly beneficial for those who anticipate changes in their financial or familial circumstances and desire a trust that can adapt accordingly.

Moreover, with the ever-evolving legal and tax regulations, having a trust that offers a buffer against potential future changes is invaluable.

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A discretionary split trust is instrumental in preserving family wealth.

The Benefits of Using a Discretionary Split Trust

Discretionary split trusts have garnered attention for their multifaceted advantages in estate planning.

Asset Protection

One of the primary reasons people choose a discretionary split trust is asset protection.

By placing assets in a discretionary split trust, you shield them from potential creditors. This protection proves invaluable, especially in situations like bankruptcy or lawsuits.

Additionally, in the unfortunate event of matrimonial disputes, a discretionary split trust can safeguard assets from being divided or claimed.

Safeguarding Family Wealth

A significant advantage of the discretionary split trust is the privacy it offers for significant family wealth. This ensures that the details of the trust remain confidential, providing an added layer of security.

Protection from Divorce Risks

Assets placed in a discretionary split trust remain protected in the event of a divorce.

This means that these assets won’t be considered for division or claims during divorce proceedings, ensuring they remain intact for the intended beneficiaries.

Tax Efficiency

Discretionary split trusts offer significant tax advantages. By keeping certain assets outside the estate, you can minimize inheritance tax liabilities.

Furthermore, when managed correctly, a discretionary split trust can provide benefits related to capital gains tax. This efficiency ensures that beneficiaries receive the maximum benefit from the trust’s assets.

Inheritance Tax (IHT) Benefits

Discretionary trusts, including the discretionary split trust, are often used to reduce the value of the settlor’s estate as part of a wider inheritance tax (IHT) and estate planning strategy.

They provide a means of offering provisions for beneficiaries without giving them direct rights to the trust assets.

In the event of the settlor’s death, these trusts provide family and loved ones with a degree of financial certainty.

Capital Gains Tax Advantages

A discretionary split trust is considered a separate entity and is liable to pay capital gains tax only on gains above the trust’s annual allowance. This can be advantageous when compared to individual tax liabilities.

Income Tax Efficiency

For the first portion of income received by the trust, the tax rates are considerably lower. Beyond a certain threshold, the rates increase, but with careful management, a discretionary split trust can optimize income distribution to benefit from these lower rates.

Setting Up a Discretionary Split Trust

Establishing a discretionary split trust involves a series of steps that ensure the trust operates effectively and meets the intended objectives.

The Essence of a Discretionary Split Trust

A discretionary split trust, often referred to as a Family Trust, is a prevalent trust type, especially in regions like Australia.

Unlike fixed trusts, where the distribution to beneficiaries is predetermined, a discretionary split trust offers flexibility. The trustee has the discretion to decide how the assets are distributed among the beneficiaries.

This adaptability makes it a preferred choice for many, especially for those aiming for tax efficiency, asset protection, and tailored financial planning.

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Discretionary split trusts offer significant tax advantages.

Key Steps in Establishing a Discretionary Split Trust

Asset Identification

The first step involves determining which assets you want the trust to manage. It’s vital to ensure that the assets you place in your discretionary split trust align with your goals, whether they are for asset protection, tax planning, or other purposes.

Trustee Appointment and Beneficiary Identification

The choice of trustee for your discretionary split trust is paramount. They hold the legal title to the trust’s assets and make decisions about distributions.

While the trustee can be an individual, a family-controlled company, or even a third-party trustee company, their integrity and competence are non-negotiable. Alongside this, you’ll need to identify potential beneficiaries.

With a discretionary split trust, you can define a class of beneficiaries, such as “children” or “grandchildren,” allowing for flexibility as your family grows.

Drafting the Trust Deed

The trust deed is the foundational document of your discretionary split trust. It outlines the trust’s objectives, the initial assets, the list of beneficiaries, and the guidelines for the trust’s daily administration. Given its importance, seeking professional assistance in drafting this document is advisable.

Administrative Formalities

After drafting the trust deed, several administrative tasks need to be completed. These include signing and dating the trust deed, registering the trust (which might involve obtaining an Australian Business Number or equivalent in other jurisdictions), and opening a bank account in the trustee’s name.

Once these tasks are complete, the trust becomes operational.

Discretionary Split Trust in Action

A discretionary split trust isn’t just a theoretical construct; it has practical implications. For instance, in Australia, the Australian Taxation Office (ATO) recognizes trusts as a significant feature of the economy.

The popularity of discretionary trusts, especially for business, investment, and estate planning, is evident in their widespread use.

When is a Discretionary Split Trust Suitable?

While discretionary split trusts offer numerous benefits, they aren’t a one-size-fits-all solution. They are particularly effective for operating businesses, as the trust structure provides asset protection.

If a business faces financial challenges, assets in the discretionary split trust remain shielded from creditors. Additionally, these trusts can be tax-efficient vehicles for managing investments, especially when aiming for capital gains tax savings.

They also serve as tools for income distribution in families where one member earns the majority of the income, allowing for legal tax minimization strategies.

Potential Drawbacks and Considerations

When considering the establishment of a discretionary split trust, it’s crucial to weigh the benefits against potential drawbacks and considerations. This ensures that you make an informed decision that aligns with your financial and estate planning goals.

Legal Implications

A discretionary split trust, while advantageous in many respects, comes with its own set of legal implications.

Trustees, for instance, bear a weighty responsibility. They are legally bound to act in the best interests of the beneficiaries, ensuring that the trust’s assets are managed and distributed as per the trust’s terms.

Failure to do so can expose trustees to potential liabilities. Moreover, the landscape of trust law is not static. Regulatory changes can influence how a discretionary split trust operates, potentially affecting its benefits. For instance, tax laws related to trusts might evolve, impacting the trust’s tax efficiency.

Therefore, it’s essential to conduct regular reviews of the trust and make necessary updates to stay compliant and maintain its effectiveness.

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Discretionary split trust is designed for clients who wish to put their life cover in trust for chosen beneficiaries but also want to retain access to certain benefits

Costs and Fees

Establishing and maintaining a discretionary split trust incurs various costs. These can range from legal fees for drafting the trust document to management fees for overseeing the trust’s assets.

Additionally, there might be costs related to tax filings, accounting, and potential court fees if any disputes arise concerning the trust. Before setting up a discretionary split trust, it’s crucial to get a clear breakdown of all potential costs.

This will help in budgeting and ensuring that the trust remains a viable and cost-effective tool for your estate planning needs.

Regulatory Changes and Their Impact

The legal framework surrounding discretionary split trusts can change based on legislative decisions. Such changes might affect the functioning, benefits, and even the tax implications of the trust.

Staying updated with these changes is vital to ensure that the trust continues to serve its intended purpose and remains compliant with the law.

The Role of Professional Advisors

Given the complexities and potential pitfalls associated with discretionary split trusts, seeking guidance from professional advisors becomes paramount.

Legal experts can provide insights into the trust’s structure, while financial advisors can offer advice on managing the trust’s assets effectively. Regular consultations with these professionals can help in navigating the challenges and ensuring that the trust remains a beneficial tool in your financial arsenal.

When to Use a Discretionary Split Trust

Discretionary split trusts have gained prominence as versatile financial tools, catering to diverse needs ranging from estate planning to business succession. Their flexibility and protective nature make them a preferred choice for many individuals and business entities.

Estate Planning

Estate planning is a meticulous process that ensures your assets are distributed according to your wishes after your demise. A discretionary split trust plays a pivotal role in this process.

Preserving Family Wealth

A discretionary split trust is instrumental in preserving family wealth. By placing assets in this trust, you ensure they remain outside of your estate for inheritance tax purposes. This strategic move can result in significant tax savings, ensuring your heirs receive the maximum inheritance.

Structured Distribution

One of the standout features of a discretionary split trust is its structured distribution mechanism. Instead of a rigid beneficiary list, this trust provides a range of potential beneficiaries.

Trustees then have the discretion to decide who benefits and when, allowing for adaptability to changing family dynamics or circumstances.

Business Succession Planning

For business owners, ensuring the continuity of their business is paramount. A discretionary split trust offers solutions tailored to the unique challenges businesses face during ownership transitions.

Protecting Business Assets

Business assets are vulnerable to various external threats, from litigations to market volatilities. By placing these assets in a discretionary split trust, business owners create a protective shield, ensuring the assets remain intact and continue to benefit the business.

Dictating Terms of Succession

Every business owner envisions a specific path for their business after they step down. A discretionary split trust allows them to dictate the terms of succession. Whether it’s ensuring a family member takes over or integrating a buy-sell agreement, the trust provides the necessary framework.

Retaining Access to Certain Benefits

According to information from Royal London, a discretionary split trust is designed for clients who wish to put their life cover in trust for chosen beneficiaries but also want to retain access to certain benefits, such as income protection or critical illness cover.

This dual benefit ensures that while the life cover goes to the beneficiaries, the settlor can still benefit from other protective features if certain conditions are met.

Is a Discretionary Split Trust Right for You?

A discretionary split trust primarily serves individuals who wish to place their life cover in trust for their chosen beneficiaries while retaining access to certain benefits. Interestingly, there are variations to the discretionary split trust.

One such variation is designed for jointly owned plans, where the plan owners aim to receive any other benefits. Before deciding on a discretionary split trust, it’s essential to assess your financial situation and objectives.

This trust offers a unique blend of flexibility and control, making it suitable for various scenarios. However, it’s crucial to understand its intricacies and potential implications. Consulting with a financial advisor can provide clarity on its benefits and potential drawbacks.

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Discretionary split trusts have garnered attention for their multifaceted advantages in estate planning.

Moreover, considering the legal implications with an attorney ensures that you remain compliant and informed. As with any financial instrument, discretionary split trust requires careful consideration and expert guidance.

By understanding its current applications and benefits, you can determine if a discretionary split trust aligns with your financial goals.

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Adam is an internationally recognised author on financial matters, with over 760.2 million answer views on Quora.com, a widely sold book on Amazon, and a contributor on Forbes.

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