Trust Disadvantages and Solutions

The major disadvantages that are associated with trusts are their perceived irrevocability, the loss of control over assets that are put into trust and their costs.

In fact trusts can be made revocable, but this generally has negative consequences in respect of tax, estate duty, asset protection and stamp duty. Revocability is a matter to be discussed when the terms of the trust are considered.

Many potential settlors are reluctant to transfer assets to trustees because they fear relinquishing control. For those who wish to continue to exercise effective control over the trust assets after the transfer, careful planning – together with an understanding of the fundamental legal requirements of a trust – is required if the trust is to remain valid or useful for its intended purpose.

If a settlor retains too much control, there is a risk that the trust will not be effective and the settlor will continue to be regarded as the legal owner. If this happens all the advantages of having the assets held in trust may be lost. There are, however, varying degrees of control and information rights that may be retained to give comfort to a settlor:

Memorandum of Wishes – When setting up a discretionary trust it is common for the settlor to indicate to the trustees how the settlor would have dealt with those assets if they had retained ownership. The trustees will make a comprehensive note of these wishes in a written memorandum, to which they will refer when dealing with the trust property. The wishes of the settlor will not be binding on the trustees but, in practice, trustees would be reluctant to deviate unless a change in circumstance or other matters would make it clearly disadvantageous to the beneficiaries to act in such a way.
Protector – A ‘protector’ may be appointed to exercise some degree of control over the trust property. It is usual for a trusted friend, family relative or professional adviser of the settlor to be appointed, but it is also becoming increasingly common to use the services of a professional trust company. Sovereign is able to serve as a professional protector where we are not retained to act as trustees. In our view, it is unwise for a protector to be given anything other than powers to veto decisions or actions of the trustees. A protector that is empowered to direct the trustees actively might be deemed as a ‘quasi-trustee’ and this could have harmful consequences for the trust.
Two-tier company and trust structure – Greater flexibility can sometimes be achieved if the underlying assets are owned by a company that is in turn owned by a trust. The settlor, or an appointee of the settlor, can act as the director of the company, enabling them to exercise day-to-day control over the underlying assets with minimal interference or need to refer to the trustees. This two-tier structure can be used to good effect in certain circumstances but might have tax and other disadvantages if the director of the company is resident in a high tax country.
Joint trustees – A trust can be structured using joint trustees such that the agreement of both is required for any action. The second trustee could be the settlor or a company controlled by the settlor. Again, there may be negative tax or other consequences resulting if the settlor is resident in a high tax country. Alternatively, a ‘check and balance’ may be obtained by having two different professional trust corporations acting as joint trustees. This can be cumbersome and expensive but it may be suitable for certain trusts.
Private Trust Companies – A Private Trust Company (PTC) is a company formed for the specific purpose of acting as trustee of a single trust or a group of related trusts. Family members can participate in the management of the PTC and therefore in the decisions that need to be taken by the PTC as trustee, including decisions relating to the control and management of companies owned by the trustee.

A third party professional trust company may not be in a position to offer the settlor the degree of flexibility and the speed of response that they require and will not be as familiar with the business of companies owned by the trust as the family members themselves. A PTC structure can circumvent these issues. Directors that are familiar with the business can make the decisions and, if a change of direction is desired for the management of the trust, this can be achieved by changing the board of the PTC. A PTC can therefore provide greater comfort for the settlor that their objectives in creating the trust will be met.

It is usual and advisable to have at least one director who is a trust expert to add substance and credibility to the PTC and to ensure that the PTC – and the trust(s) it administers – is run correctly. All decisions taken by the directors of the PTC in relation to the trust must be in the interests of the beneficiaries as a whole.

More important than the constitution of the board will be the ultimate ownership of the PTC because this will, if the owners feel it necessary, allow them to remove directors and replace them. However the settlor will retain a significant degree of control if they are acting as sole or majority shareholder or alternatively the guarantor member of the PTC. Careful consideration of the overall trust, PTC and family structure must therefore be undertaken if the objectives of settling the trust are to be met.

Many jurisdictions specifically exempt PTCs from the requirement to be licensed and regulated provided that the PTC acts solely as trustee of a specific trust or group of trusts, and does not solicit from, or provide trust company business to, the public. In most cases there is also no requirement to submit any reports or accounts to any statutory body of either the PTC itself or of the trusts for which it acts.

The costs of establishing both a PTC and a trust (or trusts) will generally be higher than the cost of simply establishing a trust. However the ongoing costs may be less than the trustee fees that would be charged by an independent third party trustee. This is particularly the case where trust assets are very substantial because independent trustees will often charge fees based on a percentage of the assets.

It is often assumed that the costs of running a trust are prohibitive. It is true that many of the major banks and other financial institutions charge substantial fees for setting up a trust while also charging a percentage of the trust assets in annual administration fees together with basis points fees for the underlying trust’s cash investments.

The fees charged by independent trust companies are generally more reasonable and make trusts affordable even to relatively modest estates. As specialists, independent trust companies offer a more tailored approach that will allow settlors and beneficiaries to achieve their objectives. It also means they can be consulted on technical matters and are free to select the best investments for the trust without being under pressure to place trust money with in-house investment advisers to secure disguised remuneration.

To know more
Get in Touch

Please contact us if you have any questions or queries and your local representative will be in touch with you as soon as possible.