There are a number of potentially valuable benefits available for clients considering using a trust vehicle for compensation awards where long-term personal care will be necessary. This is, however, a complex area of law and there are various pitfalls waiting to catch out the unwary.
Specialist advice may be required on a number of issues, including trust law, tax legislation and practice, capacity and incapacity, and benefits. We would always therefore strongly recommend you seek professional advice before taking any action.
What is a Personal Injury Trust?
A personal injury trust (PIT) is not a special type of trust. It is simply a trust holding funds paid as compensation to someone who has suffered a personal injury.
Why use a Personal Injury Trust?
The principal benefit of a PIT is that funds held within it will, generally, be “disregarded capital” for means tested welfare benefits purposes.
A PIT may also provide a degree of protection from assessment for the purposes of local authority benefits.
There are also other, important, reasons for considering the use of a PIT. These include:-
- Lack of experience of handling large sums of money;
- Protection against the undue influence of relatives or friends;
- Ring fencing resources for fear of separation or divorce;
- Helping to safeguard your financial future.
Who can set up a Personal Injury Trust?
As the injured person, you can set up the PIT yourself.
If the injured person is a child, the child’s parent(s) as their legal representative(s) can do so for the child.
If the injured person is an incapable adult, then their financial guardian can set up the trust for them. That will usually require an application to the sheriff court.
When should the Personal Injury Trust be set up?
Ideally, as soon as possible after receipt of the award.
If the award is, or is thought likely to be, large, the PIT could be created before receipt of the award, or of any interim payment.
However, generally speaking, it is never “too late” to set up a PIT.
Can different types of trust be used?
Yes. There are four main types of trust:-
Only the injured person can be the beneficiary. Although a bare trust will have trustees who are responsible for its administration, the injured person (or their financial guardian, if appropriate) has full control of what is done with the trust funds.
The trust funds are treated as if they belonged to the injured person for both tax and succession purposes.
Interest in possession trust
The injured person will be entitled to the income of the trust and the trustees usually will have power to apply capital for his or her benefit if they decided to do so.
For inheritance tax (‘IHT’) purposes, the trust will be subject to the relevant property regime. For income tax purposes, the trust income is generally taxed on the basis that it belongs to the beneficiary. The trust will have its own capital gains tax (‘CGT’) annual exemption (currently £5,550). There are strong tax disincentives to the use of this type of trust if the sum to be put into it exceeds £325,000. In that case there could be an immediate 20% IHT charge on the excess with further IHT charges every 10 years and when funds leave the trust.
Pure discretionary trust
In addition to the injured person, there can be other potential beneficiaries and the trustees have a greater degree of flexibility in holding and applying the trust fund for the beneficiaries.
For IHT purposes, the trust will be subject to the relevant property regime. For income tax purposes the trust will be taxed at the rate applicable to trusts (currently 45%). The trust will have its own trustees’ CGT annual exemption (currently £5,550).
Again, there could be a tax discentive to its use if more than £325,000 were to be settled into it.
Disabled discretionary trust
This trust type may be suitable when a person is in receipt of certain categories of social security benefits and/or suffers from a mental disorder.
The tax treatment is similar to that of a bare trust.
Does a Personal Injury Trust have tax advantages?
Generally speaking, no.
As already noted, use of an interest in possession or pure discretionary trust can in certain circumstances have significant adverse IHT consequences.
Can I be the only trustee?
No. You can be a trustee, but there must be at least one other trustee. Without at least one other trustee, there would be no effective trust and a risk that the funds would not be disregarded capital.
How many trustees do there need to be?
In a bare trust, it is often the case that you and one other trustee should be sufficient.
In the case of other types of trust, at least three trustees would, usually, be recommended.
What if a trustee can no longer act?
If a trustee wished to stop being involved, became incapable or died, then a replacement trustee would usually need to be added. A replacement trustee would have to be formally added if you were the only other trustee.
What are the costs of setting up a Personal Injury Trust?
If you are considering setting up a PIT or wish information and advice about PITs, we are happy to offer a free initial interview with one of the solicitors in our PIT team.
After that meeting we could prepare a short report recommending how you might wish to take matters forward, given your particular circumstances and intentions.
Our report would usually give a proposed fixed fee for the work likely to be involved if you decided to proceed.
If you were to ask us to provide you with additional advice, or if additional work proved to be necessary, we reserve the right to charge an additional fee (the amount of which we would confirm before providing such additional advice or commencing such additional work).
Would there be any ongoing professional costs?
Not if the trustees were able to deal with the administration of the trust themselves. However, further costs could arise, for example, if legal advice was needed in relation to a specific query or problem.
In some cases, but subject to the trustees’ overall control, trustees may delegate the day-to-day administration of a trust to us, as their solicitors.
The nature of the work we may be instructed to undertake for trustees varies from case to case, but could include some, or all, of:-
- ongoing administration, including cash management
- preparation of annual trust accounts and maintenance of trust records
- organisation of annual (or more frequent) trustees’ meetings
- tax compliance
- liaison with the trustees’ fund managers.
If you and the other trustee(s) wished to consider our ongoing involvement, and its extent, we would be happy to discuss this with you on a no obligation basis. We could then prepare a report setting out the possible extent of our involvement and likely costs.
How would the trust’s funds be invested?
If the trustees simply wished to place the funds in a bank account, they would first need to find a bank that could offer a trustees’ account. Not all banks may be able to do so.
Once a suitable bank account had been chosen, the account opening forms and any anti-money laundering procedures completed for the bank, the funds to be placed in the bank account could be transferred to it from our client account, on the trustees’ instructions.
After that, the control of the funds in the bank account would rest with the trustees. We would normally recommend that any transactions on the trustees’ bank account should require the authorisation of all or, at least, a majority of trustees for security reasons.
If the trustees wished to consider the investment of any part of the trust funds in something other than a bank account, the trustees would be responsible for making that decision. They might themselves agree what to do, but are more likely to want to obtain independent financial advice from an independent financial adviser.
Anderson Strathern operates a subsidiary financial services company, Anderson Strathern Asset Management Limited (ASAM), which would be happy to assist, if desired.
Fees payable in respect of the obtaining of independent financial advice would be on top of the set up and, where appropriate, additional ongoing fees described above.
Related specialist services
Our PITs team have a wide range of knowledge, experience and expertise in this area. We are able to provide a comprehensive range of other specialist services, including:
- providing sufficiency reports
- advising on methods and costs of management reports