What is a bare trust?

A bare trust is one where the beneficiary has an immediate and absolute right to both the capital and income held in the trust. Bare trusts are sometimes known as 'simple trusts.'

Someone who sets up a bare trust can be certain that the assets (such as money, land or buildings) they set aside will go directly to the beneficiaries they intend. These assets are known as 'trust property'. Once the trust has been set up, the beneficiaries can’t be changed.

The assets are held in the name of a trustee - the person managing and making decisions about the trust. However, the trustee has no discretion over what income or capital to pass on to the beneficiary or beneficiaries.

Bare trusts are commonly used to transfer assets to minors. Trustees hold the assets on trust until the beneficiary is 18 in England and Wales, or 16 in Scotland. At this point, beneficiaries can demand that the trustees transfer the trust fund to them.

Example

Gary leaves his sister Juliet some money in his will. The money is to be held in trust. Juliet is the beneficiary and is entitled to the money and any income (such as interest) it earns. She also has a right to take possession of any of the money at any time.

This is a bare trust because Juliet is absolutely entitled to both the capital (the original money put into the trust) and the income (any interest earned).

Bare trusts and Income Tax

Trustees may receive income from investments such as bank interest, dividend income from stocks and shares or rental income from land or buildings. The beneficiary is liable for Income Tax on income received by the trust.

Bare trusts and Capital Gains Tax

Capital Gains Tax is a tax on the gain in the value of assets such as shares, land or buildings. A trust may have to pay Capital Gains Tax if assets are sold, given away or exchanged (disposed of) and they’ve gone up in value since being put into trust. The trust will only have to pay the tax if the assets have increased in value above a certain allowance. This allowance is known as the 'annual exempt amount'. The assets of a bare trust are treated for tax purposes as if the beneficiary holds the trust assets in their own name. In a bare trust the beneficiary pays the tax as if they owned the assets directly. 

Bare trusts and Inheritance Tax

Inheritance Tax is sometimes payable if the person who put an asset into the bare trust dies within seven years of doing so. This is known as a 'potentially exempt transfer'.The beneficiary is responsible for this tax.

 

What is an interest in possession trust?

From an Income Tax perspective, an interest in possession trust is one where the beneficiary has an immediate and automatic right to the income from the trust after expenses. The trustee (the person running the trust) must pass all of the income received, less any trustees' expenses, to the beneficiary.

The beneficiary who receives income (the 'income beneficiary') often doesn't have any rights over the capital held in such a trust. The capital will normally pass to a different beneficiary or beneficiaries in the future. The trustees might have the power to pay capital to a beneficiary even though that beneficiary only has a right to receive income. However, this will depend on the terms of the trust.

Example

Stanley is married to Kathleen. On his death Stanley's will creates a trust and all the shares he owned are to be held in that trust. The dividends (income) earned on the shares are to go to Kathleen for the rest of her life. When she dies the shares pass to the children.

Kathleen is the income beneficiary. She has an 'interest in possession' in the trust as she is entitled to the dividend income from the trust assets for the rest of her life. Kathleen has no right to the capital. When she dies the trust ceases and all the capital (the shares) passes to the children.