Is there still a use for Nil Rate Band Discretionary Trusts?

By Hannah Borner Webster

Partner

03 June 2024

Article Insights

Nil Rate Band Discretionary Trusts were frequently included in Wills up until 2007, when there was a change to the inheritance tax rules. Before the rule change, if the deceased’s inheritance tax free allowance, known as the ‘nil rate band’ was not fully utilised on their death, any unused proportion was lost. It was, and still is, common for spouses and civil partners to leave everything to the survivor on first death, but this would have resulted in an unfavourable tax position, as the survivor’s estate would then comprise of the combined assets of the couple, but they would only have one nil rate band to set against their combined estate.

Nil Rate Band Discretionary Trusts were used to prevent the loss of the nil rate band by leaving assets to the value of the nil rate band to a discretionary trust. This would fully utilise the first to die’s nil rate band, and the assets in the trust would not then form part of the survivor’s estate, and so would not be subject to inheritance tax on the survivor’s subsequent death.

There is no longer any need to include Nil Rate Band Discretionary Trust provisions in Wills for this purpose, as the Nil Rate Band can be transferred between a married couple or civil partners, so that, if any proportion of the Nil Rate Band is unused on first death, it can be transferred and set against the value of the survivor’s Estate on their subsequent death.

However, Nil Rate Band Discretionary Trusts can still be used for flexibility, protection of assets and inheritance tax planning. The Will sets out the trust provisions and specifies who the trustees are, as well as the discretionary beneficiaries. There is no reason why the surviving spouse or civil partner should not be included as one of the trustees and one of the discretionary beneficiaries, and so they can be involved in all decisions relating to the trust, and can benefit from it. 

It is at the absolute discretion of the trustees as to what happens to the assets which are held on trust and, crucially, for as long as the assets remain within the trust, they do not belong to any beneficiary. This means that any such assets should not be taken into account in any financial assessment, including for the payment of care fees or as part of divorce proceedings, and cannot be accessed if one of the beneficiaries is declared bankrupt. The trust can, therefore, be a useful way of ringfencing assets.

Any assets which remain in the trust also do not form part of any beneficiary’s estate for inheritance tax purposes, which means that Nil Rate Band Discretionary Trusts can be useful from a tax planning perspective. In particular, they can be a useful way of reducing the value of the surviving spouse’s estate, which can be helpful if the survivor’s estate is close to the £2 million threshold for the Residence Nil Rate Band.

Nil Rate Band Discretionary Trusts can also be useful where an Estate has assets which qualify for Business Property Relief. Wills can be drafted so that any assets qualifying for 100% Business Property Relief pass into the Nil Rate Band Discretionary Trust on first death. If the business assets are subsequently sold, those assets will no longer qualify for Business Property Relief, but if they are held on trust, rather than belonging to the survivor, there will be no inheritance tax to pay on those assets when the survivor subsequently dies.

If, when the time comes, it is clear that there is no need for any assets to remain within the trust, it can be abandoned by appointing all of the assets to the survivor. Provided this is done within 2 years of the date of death, for inheritance tax purposes, the trust is deemed to never have existed and so the first to die’s nil rate band will remain unused and can be transferred and set against the survivor’s estate on second death. Alternatively, it may be clear that the survivor has no need for the assets which have passed into trust, in which case they can be distributed to other beneficiaries.

While the original purpose of the Nil Rate Band Discretionary Trust is now obsolete, there are still a number of reasons to consider including Nil Rate Band Discretionary Trust provisions in a Will. The flexibility means that the trust can be abandoned if it is not required, but the trustees can look at the circumstances at the time and decide the best way to proceed, which can be extremely useful, in the absence of a crystal ball.

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