Trusts for Disabled People: a guide including HMRC and Tax Issues

Welcome to Mercian Accountants, your trusted advisors in all matters relating to finance and taxation. This article will guide you through the essential aspects of trusts for disabled people. If you are considering setting up a trust for a disabled person or are a carer for someone who may benefit from such a trust, this article is for you.

Trusts for disabled people can provide significant benefits to those in need, and they come with special tax rules that can result in more favourable tax treatment compared to other types of trusts. However, trusts can be complex, and the tax rules for disabled person’s trusts are not straightforward. Therefore, it is essential to seek professional advice when setting up or administering a trust for a disabled person.

In this article, we will explore the reasons for setting up a disabled person’s trust, who qualifies as a disabled person, the additional conditions for special tax treatment, and the special tax rules for disabled person’s trusts. We will also touch on the Trust Registration Service and other sources of information.

At Mercian Accountants, we have extensive experience in advising clients on trusts for disabled people. Our team of experts is dedicated to providing tailored solutions to meet your individual needs. Please do not hesitate to contact us to discuss your requirements further.

Table of Contents

Reasons for Setting Up a Disabled Person’s Trust

There are several reasons why someone might consider setting up a trust for a disabled person:

The disabled person may not always be able to manage their own finances. This could be due to a physical or mental disability that affects their ability to make sound financial decisions. In such cases, a trust can be set up to ensure that the disabled person’s financial needs are met.

An individual may want to set aside funds for the disabled person while retaining control over the funds through the trust deed. This could be because the person setting up the trust wants to ensure that the disabled person’s financial needs are met but also wants to retain some control over how the funds are used.

A trust can be established by a parent or relative for a child, an individual for themselves if they think they may need protection in the future, or to receive compensation monies, for example, from a personal injury claim. In such cases, the trust can be used to provide ongoing financial support to a disabled person while also protecting their assets from being depleted too quickly.

It is worth noting that setting up a trust for a disabled person can be a complex process, and there are various legal and financial implications to consider. It is, therefore, advisable to seek professional advice before making any decisions. A qualified accountant or financial advisor can help you understand the pros and cons of setting up a trust and guide you through the process to ensure that everything is done correctly.

Who qualifies as a disabled person?

For a trust to qualify as a disabled person’s trust, at least one beneficiary is considered disabled at the time the assets are transferred into the trust. But who exactly qualifies as a disabled person?

The criteria that need to be met to be considered a disabled person can vary depending on the circumstances, but some common examples include the following:

A person incapable of managing their own property due to a mental disorder
A person in receipt of certain disability-related benefits or allowances, such as Personal Independence Payment (PIP) or Disability Living Allowance (DLA)
A person with a physical disability that significantly affects their ability to carry out everyday activities
A person with a long-term illness or health condition that affects their ability to carry out everyday activities

It’s important to note that just because someone may have a disability or health condition, it doesn’t necessarily mean they will automatically qualify as a disabled person for the purposes of a trust. Each case will be assessed on its own merits, and it may be necessary to provide evidence of the disability or condition in question.

If you are unsure whether someone qualifies as a disabled person or whether a disabled person’s trust is the right option, seeking professional advice is always a good idea. A qualified accountant with experience in this area can help you understand the relevant criteria and assess whether a trust is the most appropriate course of action.

Special tax rules for disabled person’s trusts

Special tax rules apply to trusts for disabled people, which differ from those for other types of trusts. These rules aim to offer more favourable tax treatment for the beneficiaries of disabled person’s trusts. Here is a breakdown of the special tax rules that apply:

Income Tax and Capital Gains Tax Trustees can ask for the trust’s tax on income and capital gains to be calculated as if the assets belong to the disabled beneficiary. This can result in more favourable tax treatment than other types of trusts. Sometimes, the trust’s tax liability may be reduced or even eliminated.
Inheritance Tax Rules The assets of a disabled person’s trust are treated as though the beneficiary owns them directly. This means that the usual inheritance tax rules for trusts do not apply. As a result, the trust assets are not subject to inheritance tax when the disabled beneficiary dies.

It’s worth noting that certain conditions need to be met for a disabled person’s trust to qualify for these special tax rules. These conditions relate to using trust capital or income for non-disabled beneficiaries.

Given the complex nature of trusts, it is essential to seek professional advice when setting up or administering a trust for a disabled person. An accountant can help set up the trust in the most tax-efficient way possible and offer ongoing advice on managing the trust’s finances.

The Trust Registration Service (TRS)

The TRS is a government database that contains information about trusts, their trustees, and their beneficiaries. Most trusts must be registered under the TRS, including disabled person’s trusts that do not qualify for the special tax treatment. The registration process involves providing information about the trust and its beneficiaries, including their names, dates of birth, and addresses.

However, non-taxable disabled person’s trusts are exempt from the requirement to register with the TRS. This means that if the disabled person’s trust does not qualify for the special tax treatment, it may still not need to be registered. It is important to note that the exemption only applies to trusts not subject to tax liabilities, such as inheritance tax.

It is also worth noting that trustees are legally obligated to keep accurate records and report any changes in the trust’s status to HM Revenue and Customs (HMRC) if it is taxable. This includes notifying HMRC if the trust becomes taxable or if there are any changes to the trustees or beneficiaries. Failure to do so could result in penalties or fines.

It is essential to seek professional advice to ensure that the trust is set up correctly and complies with all legal and regulatory requirements, including the TRS registration and reporting obligations. A qualified tax adviser can help guide you through the process and ensure that your trust is structured in the most tax-efficient way possible.

Advantages and disadvantages

Setting up a disabled person’s trust can have several advantages and disadvantages that should be considered before deciding. Here are some of the main pros and cons:

Advantages:

Asset protection: One of the primary benefits of setting up a disabled person’s trust is that it can protect the assets of the disabled beneficiary. By placing assets in a trust, they are no longer owned directly by the beneficiary and are therefore protected from creditors or other potential claimants.
Control: A trust can be set up to give the person creating the trust (the settlor) control over the assets in the trust while still benefiting the disabled person. This means that the settlor can determine how the trust assets are invested and spent.
Tax benefits: As mentioned earlier, a disabled person’s trust can qualify for special tax treatment, resulting in more favourable tax treatment than other types of trusts.

Disadvantages:

Cost: Setting up and administering a trust can be costly, and fees for professional advice, such as legal and tax advice, can add up quickly.
Complexity: Trusts are complex, and the rules governing disabled person’s trusts are not straightforward. This means that trustees and beneficiaries may need professional advice to navigate the legal and tax requirements.
Lack of flexibility: Once a trust is set up, it can be challenging to change the terms, mainly if it is an irrevocable trust. This means it is essential to carefully consider the terms of the trust before setting it up.

In summary, setting up a disabled person’s trust can offer several benefits, such as asset protection, control, and tax benefits. However, it is crucial to consider the potential downsides, including cost, complexity, and lack of flexibility, before making a decision. Seeking professional advice can help ensure that the trust is set up correctly and that the benefits outweigh the costs and potential drawbacks.

Types of disabled person’s trusts

The type of trust is important to consider when setting up a trust for a disabled person. Different types of trust are available, and the type of trust that is most suitable will depend on individual circumstances.

Discretionary Trusts: A discretionary trust gives the trustees discretion regarding how the trust’s income and capital are distributed among the beneficiaries. This type of trust can be beneficial for disabled people who may not be able to manage their own finances or make decisions about their own care.

Bare Trusts: A bare trust, also known as a simple trust or express trust, is a trust where the beneficiary has an absolute right to the trust assets. This means that the beneficiary has the right to all income and capital from the trust and the power to make decisions about how the trust assets are used.

Interest in Possession Trusts: An interest in possession trust is a trust where the beneficiary has a right to the income generated by the trust assets. This type of trust is suitable for disabled people who can manage their own finances but may not be able to work or earn income.

It is important to note that the criteria for setting up each type of trust will differ. For example, bare trusts are typically set up by parents or grandparents for their children or grandchildren. In contrast, discretionary trusts may be more suitable for disabled adults who are unable to manage their own finances. It is recommended to seek professional advice when deciding on the most suitable type of trust for a disabled person.

Roles and responsibilities of trustees

Trustees are appointed to manage the trust and have legal obligations, duties to beneficiaries, and potential liabilities.

Trustees play an essential role in managing a disabled person’s trust. When a trust is established, one or more trustees are appointed to manage the trust on behalf of the beneficiary. The trustees are responsible for deciding how the trust is managed, how the assets are invested, and how the income is distributed.

One of the critical responsibilities of trustees is to act in the beneficiary’s best interests. This means that the trustees must ensure that the trust is managed in a way that benefits the disabled person and consider their needs and circumstances. The trustees must also act impartially and avoid any conflicts of interest that could compromise their ability to act in the beneficiary’s best interests.

Trustees have a legal obligation to comply with the terms of the trust deed and any other legal requirements that apply. They must also keep accurate records and accounts of the trust’s transactions and provide regular reports to the beneficiaries.

Trustees may also be held personally liable for any losses resulting from their actions or omissions. Therefore, it is essential for trustees to seek professional advice if they are unsure about any aspect of their role or if they are faced with a difficult decision.

In addition to their legal and financial responsibilities, trustees must communicate effectively with the beneficiary and their carers. This includes keeping the beneficiary informed about the management of the trust, providing regular updates on the trust’s performance, and involving the beneficiary in any decisions that affect them.

Overall, the role of the trustee is an important one, and they must have the skills, knowledge, and experience to manage the trust effectively. If you are considering setting up a disabled person’s trust or are acting as a trustee, it is important to seek professional advice to ensure that you understand your legal and financial obligations and can fulfil your duties effectively.

VPE1: claiming special income tax and capital gains tax treatment

Firstly, there are two steps to getting special income and capital gains tax treatment. If the type of trust and beneficiary qualifies, the trustees and beneficiary can jointly make a ‘vulnerable person election’. This election must be made within 12 months of the standard filing deadline for the tax return when it is first to have an effect. Once the vulnerable person election has been made, the trustees can decide each tax year whether to make an election for special tax treatment.

To make a vulnerable person election, trustees must complete form VPE1. This form can be completed on-screen and printed so that both the trustees and the disabled beneficiary can sign the election before it is posted to HMRC. If the trustees cannot complete the online form, they can obtain a paper form from HMRC by calling the Trusts helpline.

Special inheritance tax rules for disabled person’s trusts

For a trust to qualify for special treatment, the disabled person must meet the definition of disabled, and the trust income or capital must not be applied to a non-disabled beneficiary other than to a minimal extent.

If a person is not ‘disabled’ when the trust is created but has a medical condition where it is reasonably likely that they will become disabled at a later date, the trust may still qualify for treatment as a disabled person’s trust from the beginning, but only for inheritance tax purposes.

If a trust meets the necessary conditions, the assets of the disabled person’s trust are treated for inheritance tax purposes as though the beneficiary owns the assets directly. Therefore, if the settlor sets up a trust for a disabled beneficiary during their lifetime, the trust will not face the usual inheritance tax charge of 20% on assets entering the trust above the settlor’s nil rate band.

If the trust was self-settled by the disabled person (or by a person who is likely to become disabled), then the transfer into the trust will be a ‘non-event’ for inheritance tax purposes. Regardless of whether the trust was set up on the settlor’s death, during their lifetime, or whether the trust was ‘self-settled’, disabled person’s trusts are not subject to ongoing ten-year anniversary charges or exit charges if capital is paid out of the trust.

When the disabled beneficiary dies, the assets of the trust will form part of their estate for the inheritance tax calculation. However, the proportion of any inheritance tax related to the trust assets will be payable by the trustees, not from the disabled person’s personal assets.

At Mercian Accountants, we are here to support and guide you through the process of setting up and managing a disabled person’s trust. Contact us today for more information.

FAQs: Frequently asked questions

Q: What is the best trust for a disabled person?

A: The best trust for a disabled person will depend on their individual circumstances and needs. Generally, a discretionary or bare trust can be suitable for a disabled person. However, it is essential to seek professional advice to determine the most appropriate type of trust.

Q: How does a disabled person’s trust work?

A: A disabled person’s trust is a type of trust that is set up for the benefit of a disabled person. The trust is managed by trustees who are responsible for managing the assets in the trust and ensuring they are used for the benefit of the disabled person.

Q: What are the different types of trusts for disabled people?

A: Several types of trusts can be set up for a disabled person, including discretionary trusts, bare trusts, and interest in possession trusts.

Q: What is a disabled person’s trust?

A: A disabled person’s trust is a type of trust that is set up for the benefit of a disabled person. The trust can qualify for special tax treatment and can help protect the assets of the disabled person.

Q: Does a disabled person’s trust affect benefits?

A: A disabled person’s trust may affect the benefits received by the disabled person. It is vital to seek professional advice to understand how setting up a trust may impact the benefits received.

Q: What assets are best in trust?

A: Assets that are best placed in a trust will depend on the individual circumstances and goals of the trust. Generally, assets intended for the beneficiary’s long-term benefit, such as property or investments, may be suitable for placement in a trust.

Q: How much does setting up a trust fund UK cost?

A: The cost of setting up a trust fund in the UK will depend on the complexity of the trust and the professional fees charged by the advisers involved. It is crucial to obtain a clear understanding of the costs involved before proceeding with setting up a trust.

Q: What happens to money left in trust? A: Money left in the trust remains under the control of the trustees, who have a duty to manage and invest the trust assets to benefit the beneficiaries. The terms of the trust will set out how and when the trust assets will be distributed to the beneficiaries.

Q: Can you leave money in trust? A: Yes, it is possible to leave money in trust for the benefit of a disabled person or any other beneficiary. This can provide ongoing financial support and protection for the beneficiary.

Q: How long does it take to set up a trust in the UK? A: The length of time it takes to set up a trust in the UK will depend on various factors, including the complexity of the trust and the availability of the necessary documentation. It can take several weeks or even months to set up a trust.

Q: Do disabled person’s trusts need to be registered? A: Most trusts, including disabled persons, must be registered with the Trust Registration Service (TRS). However, non-taxable disabled person’s trusts are exempt from this requirement.

Q: Is a discretionary trust a good idea? A: A discretionary trust can be a valuable tool for providing ongoing financial support and protection for a disabled person or any other beneficiary. However, it is essential to seek professional advice before setting up a discretionary trust, as there may be other types of trusts that are more suitable for your needs.

Q: What are the three types of trusts? A: The three main types of trusts are discretionary, bare, and interest in possession trusts.

Q: What are the disadvantages of a discretionary trust? A: The main disadvantage of a discretionary trust is that the trustees have wide discretion in deciding how to distribute the trust assets, which can sometimes lead to disputes or disagreements among the beneficiaries.

Q: What can you spend money for in a trust? A: The trust deed will set out the purposes for which the trust assets can be used. In the case of a disabled person’s trust, the assets will typically be used to provide ongoing financial support for the disabled beneficiary. However, the trustees may also be able to use the trust assets for other purposes, such as education or medical expenses.

Definitions

Trust – A legal arrangement whereby a person (the settlor) transfers property to another person (the trustee) who holds and manages the property for the benefit of others (the beneficiaries).
Disabled person’s trust – A type of trust where at least one beneficiary is a disabled person. These trusts can qualify for special tax rules, resulting in more favourable tax treatment than other types of trusts.
Beneficiary – A person or entity that is entitled to receive the benefits of a trust or other legal arrangement.
Tax treatment – How the government taxes income, capital gains, or other assets.
Income tax – A tax on income earned by individuals and businesses.
Capital gains tax – A tax on the profit made when an asset is sold for more than it was purchased.
Inheritance tax – A tax on the estate of a deceased person that is passed on to their heirs.
Vulnerable person election – A joint election made by the trustees and the beneficiary of a disabled person’s trust to claim special tax treatment.
Form VPE1 – The form used to make a vulnerable person election.
Discretionary trust – A type of trust where the trustees have discretion regarding how to distribute the trust’s assets among the beneficiaries.
Bare trust – A type of trust where the beneficiaries have an immediate and absolute right to the trust’s assets.
Interest in possession trust – A type of trust where a beneficiary has a right to receive the income from the trust’s assets for a specified period, after which the assets pass to other beneficiaries.
Settlor – The person who creates a trust and transfers property into it.
Trustees – The persons or entities responsible for managing the trust’s assets and distributing them to the beneficiaries according to the terms of the trust.
Roles and responsibilities of trustees – The legal obligations, duties to beneficiaries, and potential liabilities of trustees.
Trust Registration Service – A system for registering trusts with HM Revenue and Customs.
Potentially exempt transfer – A transfer of assets into a trust that is exempt from inheritance tax if the settlor survives for seven years after making the transfer.
Exit charges – A tax on the value of the assets leaving a trust.
Ten-year anniversary charges – A tax on the value of the assets in a trust that occurs every ten years.
Trust fund – The assets held in a trust.

Friendly advice

In conclusion, setting up a trust for a disabled person can provide many benefits, including protection of assets and potential tax advantages. However, it is crucial to understand the different types of trusts available, the special tax rules that apply, and the roles and responsibilities of trustees. Seeking professional advice is also crucial in navigating the complex world of trusts.

If you have any questions about setting up a trust for a disabled person or need advice on managing an existing trust, please do not hesitate to contact us at Mercian Accountants. Our experienced team is here to help and provide personalised solutions to your needs.