Bare Trust vs Discretionary Trust: Which Suits Your Family Assets?
When families begin thinking about how to pass on assets, the word "trust" often comes up. But a trust is not a single product. It is a legal arrangement with several distinct forms, each designed for different goals. Two of the most common structures used for family wealth are bare trusts and discretionary trusts. Both can hold assets such as property, investments or cash, but they work in very different ways. Understanding those differences is essential before deciding which one to use.
What a trust does at its simplest
A trust separates legal ownership from beneficial ownership. The person who creates the trust is the settlor. They transfer assets into the trust and appoint trustees to manage those assets. The people who will eventually benefit from the assets are the beneficiaries. The trust deed sets out the rules for how the trustees must act and how the beneficiaries can receive benefits. The core difference between a bare trust and a discretionary trust lies in how much control the beneficiaries have and how much flexibility the trustees retain.
Bare trusts: clear and fixed
A bare trust is the simplest form. In a bare trust, the beneficiary has an immediate and absolute right to the trust assets and to the income they generate. Once the beneficiary reaches the age of eighteen, they can demand that the trustees transfer everything to them. The trustees have no discretion over when or how much to distribute. They hold the assets as a formality until the beneficiary is entitled to take them.
This structure works well when the settlor wants to give assets to a child or young adult but does not want them to have full control before they reach maturity. For example, a grandparent might place shares into a bare trust for a grandchild. Until the grandchild turns eighteen, the trustees manage the shares and decide whether to reinvest or accumulate income. After that age, the grandchild can take over entirely.
From a tax perspective, bare trusts are transparent. The assets and income are treated as belonging to the beneficiary for tax purposes. That means the beneficiary pays income tax and capital gains tax on the trust income and gains, not the trustees. For inheritance tax, the transfer into a bare trust is a potentially exempt transfer, so if the settlor survives seven years, the value falls outside their estate. This clarity can be an advantage, but it also removes the settlor's ability to control how and when the assets are used later.
Discretionary trusts: flexibility and control
A discretionary trust gives the trustees far more power. Under a discretionary trust, no beneficiary has an automatic right to receive anything. The trustees decide which beneficiaries receive income or capital, how much they receive, and when. The trust deed usually defines a class of beneficiaries, such as the settlor's children and grandchildren, and gives the trustees the discretion to distribute among them.
This arrangement is particularly useful when the settlor wants to protect assets from beneficiaries who may not be ready to manage money responsibly, or when the settlor wants to keep assets available to support multiple family members over time. For instance, a discretionary trust might hold a family home so that several children and grandchildren can benefit from it at different stages, without any one person having the right to sell it.
Discretionary trusts also offer inheritance tax planning opportunities. Assets placed into a discretionary trust are subject to the relevant property regime. This means there is an immediate charge to inheritance tax on transfers that exceed the nil rate band, and there are periodic ten-year charges on the value held within the trust. However, with careful planning, these charges can be managed. The trade-off is that the settlor gives up control in a formal sense, but they can influence matters through a letter of wishes that guides the trustees.
Key differences at a glance
- In a bare trust, the beneficiary has a fixed entitlement. In a discretionary trust, the trustees decide.
- Bare trusts transfer legal control to the beneficiary at age eighteen. Discretionary trusts can continue for much longer.
- Tax treatment differs: bare trusts are transparent, while discretionary trusts are taxed as a separate entity under the relevant property regime.
- Bare trusts are simpler and cheaper to set up. Discretionary trusts involve more paperwork and ongoing administration.
- The level of asset protection varies: a discretionary trust can shield assets from a beneficiary's creditors or divorce, while a bare trust offers little protection once the beneficiary reaches eighteen.
When each trust suits different goals
Choosing between a bare trust and a discretionary trust depends on the family's specific circumstances and objectives. A bare trust may be the right choice when the goal is straightforward: you want to give assets to a specific person and you are comfortable with them gaining full control at a young age. This is common for gifts of cash, shares or insurance policies intended to help a child with university fees or a first home. The simplicity and low cost of a bare trust make it attractive for smaller amounts.
A discretionary trust is more suitable when the settlor wants to retain flexibility. For example, if there are multiple potential beneficiaries and it is unclear what their future needs will be, the trustees can adapt by directing money to those who need it most. Discretionary trusts are also valuable when there are concerns about a beneficiary's ability to manage money, or when the assets are large enough that inheritance tax planning matters. The trade-off is higher complexity and ongoing costs, but the added control can be worth it.
Another factor is the nature of the assets. For a single asset like a house that will be occupied by family members, a discretionary trust can allow several people to live in it without giving any one person ownership. A bare trust would not work well for that purpose because the beneficiary could demand the property be sold or transferred to them alone.
It is also worth thinking about future changes in the law. Discretionary trusts have been subject to various tax changes over the years, and the relevant property regime can be complex. However, the flexibility they offer often outweighs the administrative burden for families who want to plan for the long term. A well-drafted trust deed can give trustees the power to add or exclude beneficiaries, which can be useful if the family grows or circumstances shift.
Practical steps before deciding
Before setting up either type of trust, it is wise to consider a few practical questions. What is the value of the assets going into the trust? Are there multiple beneficiaries or just one? How old are they now? What are the inheritance tax implications for the settlor's estate? How much control does the settlor want to retain? Answering these questions helps narrow down the choice.
For families with significant assets and a desire to minimise inheritance tax, discretionary trusts often provide more room for planning. For smaller sums where the goal is simply to pass money to a child, a bare trust may be simpler and cheaper. Some families use a combination of both: a bare trust for certain assets and a discretionary trust for others, depending on the purpose of each gift.
One point that often surprises people is that the choice is not irreversible. If a bare trust is set up and the beneficiary is still a minor, the trustees can in some cases convert it to a discretionary trust, but this involves legal steps and may have tax consequences. Similarly, a discretionary trust can later be appointed out to beneficiaries, effectively ending it. Professional advice is essential before making any changes.
Getting the detail right
The trust deed is the document that governs everything. It must be drafted carefully to reflect the settlor's intentions and to comply with current tax law. For a discretionary trust, the deed should specify the class of beneficiaries clearly and give trustees sufficient powers to manage the assets effectively. For a bare trust, the deed must make clear that the beneficiary's interest is absolute and indefeasible.
Trustees also need to understand their duties. In a bare trust, the duties are limited: hold the assets and transfer them when the beneficiary is entitled. In a discretionary trust, trustees must actively consider the needs of the beneficiaries and make decisions in line with the trust deed and any letter of wishes. They must keep records, file tax returns and manage the assets prudently. Choosing trustworthy and capable trustees is a critical step.
For families considering either route, it can help to speak with a professional who understands the nuances of trust law and inheritance tax. For example, ifajonesandco.uk offers personalised inheritance tax planning that considers the specific exposure of an estate and works to reduce avoidable tax. Their approach helps families pass on wealth clearly and efficiently, which is exactly what a well-chosen trust should achieve. ifajonesandco.uk focuses on the practical outcomes that matter most to families.
Final thoughts on the choice
Neither a bare trust nor a discretionary trust is inherently better. The right choice depends on the family's goals, the size and nature of the assets, and the level of flexibility required. A bare trust is straightforward and low cost but offers no ongoing control. A discretionary trust is more complex and expensive but provides flexibility and protection. Understanding this trade-off is the first step toward making a decision that genuinely supports the family's long-term interests.
What matters most is that the trust is set up with a clear purpose and properly maintained over the years. A trust that is left neglected can cause more problems than it solves. Regular reviews with a professional can ensure the trust continues to meet the needs of the family and remains tax efficient. With the right structure in place, a trust can be a powerful tool for preserving family wealth across generations.