Trusts can play a big part in the inheritance tax planning process. In this article, the types of trusts for inheritance tax planning covered include: Discounted Gift Trusts, Loan Trusts, and Flexible Reversionary Trusts.
Each could help reduce your estate’s value while allowing varying levels of access and control. Choosing the right one depends on your health, financial needs, and appetite for flexibility. All in all, setting up a trust to avoid inheritance tax is a common recommendation.
Nevertheless, as the old saying goes, the devil is in the details. As a result, learning about the different types of trusts for inheritance tax planning helps you make the right choices.
What you will learn
- The purpose and mechanics of these three trusts
- When each type of trust is most suitable
- Key benefits and tax advantages of each structure
- Common risks, considerations and practical limitations
- How control, access, and flexibility differ between them
Firstly, we’ll take a look at Discounted Gift Trusts, then move on to Loan Trusts.
Finally, we’ll complete this short guide to some of the best types of trusts for inheritance tax planning by focusing on Flexible Reversionary Trusts.
The different types of trusts for IHT planning
Now let’s take a look at:
- Discounted Gift Trusts
- Loan Trusts
- Flexible Revisionary Trusts
If you are concerned about the impact of taxation on your estate, this article will guide you on some of the options to help you plan for IHT.
Discounted Gift Trusts (DGTs)
DGTs are one of the best ways to plan for IHT and protect the family wealth, while receiving a fixed income. This section covers three important areas of using DGTs for inheritance planning. They are:
- How Discounted Gift Trusts work
- The benefits and advantages of these trusts
- Any key potential drawbacks and considerations
How do these types of trusts work?
A Discounted Gift Trust (DGT) is for people wanting to reduce their estate for inheritance tax purposes and receive a fixed income.
If you want to understand this option in more depth, read our full guide to using Discounted Gift Trusts for inheritance tax planning, covering how they work, when they suit estate planning, and the key considerations to weigh up.
Typically, you invest a lump sum into a trust, usually via an investment bond, and agree to take a set yearly withdrawal for life. HMRC discounts the value of the gift based on your age and health; this ‘discount’ is immediately excluded from your estate.
The benefits of using DGTs for inheritance planning?
- Immediate inheritance tax reduction on the discounted portion
- Regular withdrawals, often tax-efficient
- Simple to set up and maintain
- Ideal for people in good health who want to act early
- Retains a degree of financial support while planning ahead
Drawbacks and considerations
- Withdrawals are fixed and cannot be changed
- No access to the remaining capital beyond your income
- Health conditions can reduce the discount applied
- Once set up, the trust cannot be reversed
- May impact means-tested benefits or care assessments
Example
John and Lisa, both in their early 60s and in good health, decide to place £200,000 into a Discounted Gift Trust using an investment bond. They agree to receive £8,000 each year as a fixed income.
Based on their age and health, HMRC applies a discount, which reduces the taxable value of their estate straight away.
The rest of the amount may fall outside their estate if they benefit from the seven year rule for gifts, but it’s important to note that the capital remains in the trust and cannot be accessed directly.
Using Loan Trusts to plan for IHT
This section is split into three short sections:
- The way Loan Trusts work for inheritance tax planning
- The key advantages of these trusts
- Any key potential drawbacks and considerations
How they work
Loan Trusts work differently. You loan a lump sum to a trust, instead of gifting it. The trust invests the money, and you can recall your loan at any time, usually through regular withdrawals.
The original loan remains part of your estate for inheritance tax, but any growth on the investment is outside your estate from day one.
What are the main benefits?
- Full access to your original capital
- Immediate inheritance tax benefit on growth, not the loan itself
- Flexible repayment structure
- Suitable for cautious individuals who value control
- Easy to explain and administer with adviser support
Drawbacks and considerations for using Loan Trusts
- No immediate inheritance tax reduction on the loaned amount
- The loan is repayable on demand, so it can reduce protection from creditors
- Slower inheritance tax benefits compared to gifting structures
- Trustees must be aware of repayment obligations
- Less suitable for those aiming to gift a fixed sum outright
Example
Gupta and Sanjita had £300,000 set aside and wanted a way to invest while keeping access to the funds. They loaned the money to a Loan Trust, which then placed it into an investment bond.
They began taking small monthly withdrawals to reduce the balance. Any growth on the investment sat outside their estate from day one, but the original loan remained part of it. They can request the money back at any point.
Considering your options: Discounted Gift Trusts vs Loan Trusts
Both Discounted Gift Trusts and Loan Trusts are used to reduce inheritance tax, but they take different approaches. One involves a gift, the other a repayable loan.
On the other hand, one offers faster estate reduction, and the other gives you access to capital. The right choice depends on your goals, health, and how much control you want.
If you’re deciding between these two structures, our article comparing Discounted Gift Trust and a Loan Trusts compares the benefits, access rules, and inheritance tax reduction benefits of each.
Flexible Reversionary Trusts
Now. Let’s take a look at Flexible Reversionary Trusts, focusing on:
- The way they work for inheritance tax mitigation
- The key advantages of using this type of trust
- Some factors to consider and potential negatives
How do Flexible Reversionary Trusts work?
A Flexible Reversionary Trust (FRT) provides optional access to your capital over time. The lump sum is invested into an investment bond split into segments with scheduled maturities.
At each maturity, you can choose to receive the proceeds or allow them to stay in trust. For a detailed look at when and why people use these structures, read our article on Using Flexible Reversionary Trusts for inheritance tax planning.
Benefits & advantages for inheritance tax planning
- Option to access capital in the future without full control
- Effective inheritance tax planning if you don’t take withdrawals
- Allows staged planning with long-term family protection
- Growth on investments is outside your estate immediately
- Greater flexibility than a DGT
Drawbacks and considerations
- Requires annual attention as maturities arise
- Withdrawals may create tax liabilities
- Limited flexibility once the trust is set up
- Trustees need to understand and manage the structure
- Not as hands-off as some other planning tools
Example
David and Graham, in a civil partnership and recently retired, placed £250,000 into a Flexible Reversionary Trust. The bond was split into segments with scheduled maturities each year. At the first few dates, they let the funds roll over. Over time, the value not withdrawn began moving outside their estate without giving up control.
Trusts & inheritance tax planning – factors to consider
- How much control you need over the capital once it leaves your estate
- Whether fixed withdrawals suit your income needs or could become restrictive
- The impact of your age and health on any discount applied
- How flexible you want the trust to be over time, and why
- If you may need access to funds or are comfortable passing them on permanently
A summary of these trusts & how they impact IHT planning
By now, you should understand how Trusts can play a valuable role in estate and inheritance tax planning. Discounted Gift Trusts, Loan Trusts, and Flexible Reversionary Trusts each offer different ways to reduce the value of your estate.
In summary, each provides varying levels of control and access. As you probably know from reading this article, there are many different important questions people used have about inheritance tax. To learn about them, read our inheritance tax FAQs.
Choosing the right approach depends on your financial goals, health, and family circumstances. Knowing how each trust works, along with its impact on inheritance tax mitigation, along with practical limitations, is an important step before deciding how to proceed.
Related reading
FAQs
Each trust works differently and each person’s case is unique. Discounted Gift Trusts can reduce your estate’s value immediately in part. With Loan Trusts, only the investment growth typically falls outside your estate. Flexible Reversionary Trusts may offer benefits over time if withdrawals aren’t taken. The effectiveness of each depends on structure and how it’s used. Professional advice is needed before making a decision.
Most trusts are not designed to be changed. Discounted Gift Trusts and Flexible Reversionary Trusts are fixed once created. You can’t reverse them or adjust the terms. Loan Trusts offer flexibility, as you can withdraw your original loan whenever needed without breaking the legal structure.
Withdrawals from Discounted Gift Trusts are usually treated as a return of capital, so they are not taxed immediately. With Loan Trusts and Flexible Reversionary Trusts, tax may apply if gains arise inside the bond or allowances are exceeded. Timing and size of withdrawals can affect taxation.
Most trusts must be recorded through the Trust Registration Service. This includes Discounted Gift Trusts, Loan Trusts, and Flexible Reversionary Trusts unless they qualify for exemption. Trustees are responsible for keeping the trust registered, updating details when needed, and ensuring deadlines set by HMRC are met.
Flexible Reversionary Trusts can help trustees control how and when money is passed on. Rather than giving large amounts immediately, the capital can stay within the trust. This suits families who want structure around gifting, especially where children or vulnerable adults require financial support.