Trusts for Disabled Persons – Special Tax Treatments

By Kate | February 2, 2023

Do you have a disabled family member or friend? Do they require care, and are they unable to manage their finances on their own? By setting up a Disabled Person’s Trust (a trust for ‘vulnerable beneficiaries) you will get special tax treatments based on the disabled person’s circumstances, and receive flexibility to adapt to their changing needs. You can either create the Trust during your lifetime or through your Will – carry on reading to find out more, or contact us today for further advice.

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What is a Disabled Person’s Trust?

A Trust is created by the Settlor (e.g., you), who elects Trustees (trusted members) to hold assets for the Beneficiaries (who will benefit from the Trust). In the case of a Disabled Person’s trust, the primary beneficiary must be disabled, but you should also name other beneficiaries (e.g., family members, friends, or charities) – as even if the Trust is set up to benefit the disabled person, other beneficiaries must be added to make the Trust valid.

Even though all Trusts are subject to tax, a Disabled Person’s Trust may be eligible for special tax treatments. There are conditions to be met, but ultimately, if the Trust qualifies, it will reduce the tax payable, and preserve more of the Trust’s funds for the disabled person’s care.

If the disabled person dies, and the Trust is part of your Will, then the Trust will end. The Trustees will then distribute the remaining funds according to the Will’s terms.

Advantages of a Disabled Person’s Trust

Setting up a discretionary Trust for a disabled person safeguards their future security in the following ways:

It ring-fences their assets without affecting their means-tested benefits,
It offers protection over financial abuse or exploitation from others,
It provides a way of managing money or assets on their behalf if they’re unable to do it themselves.

It’s worth bearing in mind that Trustees have full discretion over if/how/when the assets are distributed, and the disabled person does not have an absolute right to the assets.

How does the Trust Qualify for Special Tax Treatments?

For a beneficiary to qualify as a ‘disabled person’ they must meet one of the following:

Have a ‘mental disorder’ – meaning that they aren’t able to administer their property or manage their affairs, as defined in the Mental Health Act 1983. The following are accepted by HMRC:
- Alzheimer’s disease and other dementia forms
- Mental illnesses such as Depression, Bipolar disorder, and Schizophrenia,
- Autistic Spectrum Disorder,
- Down’s Syndrome and other learning disabilities,
- Parkinson’s Disease and Brain injuries (if they’ve caused psychological, cognitive, or behavioural disorders)
Qualifies under a ‘benefits test’ – where they’re eligible for the following benefits, even if they don’t receive them:
- Personal Independence Allowance
- A Disablement Pension
- Constant Attendance Allowance
- Armed Forces Independence Payment

In addition to a disabled person being the primary beneficiary, the Disabled Person’s Trust needs to be a ‘qualifying trust’ to receive special tax treatments (as opposed to normal trusts). It should contain restrictions on who can receive the Trust’s assets during the disabled person’s life, which are on:

Capital – if capital leaves the Trust, it must be for the benefit of the disabled person,
Income – the disabled person must have outright entitlement to all of the income. Or, if the Trustees have discretion over when the income is paid, all payments must be used for the disabled person’s benefit during their lifetime.

If the Trust qualifies, it will receive favourable tax treatments (over normal trusts) for the following – Income Tax, Capital Gains Tax, and Inheritance Tax. To claim special tax treatments, the Trustees must fill in the Vulnerable Person Election form – both the Trustees and the Beneficiary must sign the form, and if there’s more than one Vulnerable Beneficiary, each needs a separate form. And, the treatments are not automatic – the Trustees must claim every year on the Tax Return.

Trusts are complex areas, so we recommend seeking expert help and advice now.

Lower Income Tax

Trustees can elect for tax on income to be charged as if it was accrued directly to the disabled person – and so takes into account the disabled beneficiary’s personal allowances. This means that Income Tax will be charged at a lower rate (rather than the normal rate of up to 45%).

Higher Capital Gains Tax Exemption

Have assets increased in value over the annual exempt amount, since being placed in the Trust? There may be Capital Gains Tax (CGT) due if they’re sold, given away, exchanged or transferred. However, for a Disabled Person’s Trust, the annual exempt amount is doubled from £6,150 to £12,300, before being taxed at 10/18% up to the disabled person’s basic rate of tax, and 20/28% for anything over this amount. Trustees are responsible for Capital Gains Tax liabilities.

No Exit or Anniversary Charges for Inheritance Tax

Most Trusts will pay Inheritance Tax every ten years (an ‘anniversary charge’), or when assets leave the trust (an ‘exit charge’) – but a Disabled Person’s Trust does not receive these charges.

However, when the vulnerable beneficiary dies, the assets are treated as their estate, and if the value exceeds £325,000, Inheritance Tax at 40% will apply to the excess (in the absence of any other allowances, reliefs, or exemptions). If the vulnerable person dies or is no longer vulnerable, the Trustees must tell HMRC.

If the Trust is set up in your will, you (the Settlor) could be liable to pay Inheritance Tax on your estate, which will be paid as normal before the Trust’s creation (regardless of your Will’s asset distribution). Or, if you set up the Trust during your lifetime, there may be Inheritance Tax due if you don’t survive seven years since the gift.

It’s also worth being aware that a transfer to a Disabled Person’s Trust is classed as a Potentially Exempt Transfer (PET). So, unless it qualifies for business asset gift relief, there will be CGT payable on the transfer of the assets to the DPT (unless it’s an exempt asset such as cash).

What Happens without a Disabled Person’s Trust?

Without setting up a Trust for the disabled person, you could put them at risk of the following:

There’s no legally binding way to ensure that they’ll manage financially,
Family members may change their mind on providing care,
Without adequate provisions for the disabled person, your Will could be challenged, which is both lengthy and costly,
The disabled person’s means-tested benefits may be affected if assets are left directly to them, rather than being ring-fenced in the Trust.

Need Advice on Disabled Persons’ Trusts?

Please note that this is intended as general advice and should not be relied upon as specific legal advice. If you require further information about Disabled Persons’ Trusts, please contact us today through our online form, call 01743 562430, or email hello@mercianaccountants.co.uk.