Discretionary and fixed trusts

What is a discretionary trust?

A trust under which the settlor fixes a class of potential beneficiaries or purposes and gives the trustees discretion over who benefits, how much they receive and when they receive it.

Who determines the class of objects under a discretionary trust?

The settlor defines the class of objects.

What discretion do trustees have under a discretionary trust?

They may decide which objects receive distributions, the amount each receives and the timing of any distribution.

What are the objects of a discretionary trust?

The beneficiaries or purposes within the class from which the trustees may select when distributing the trust property.

What interest does an object of a discretionary trust have before the trustees exercise their discretion?

The object has only a mere hope or expectation of receiving a benefit.

Does an object of a discretionary trust have an equitable proprietary interest in the trust property?

Before an appointment is made in their favour, an individual object has no equitable proprietary interest in the trust property.

Can an object of a discretionary trust compel the trustees to distribute property to them personally?

An object cannot require the trustees to select them or make a distribution in their favour.

Can an object of a discretionary trust personally claim compensation paid for a breach of trust?

Compensation for breach is generally restored to the trust fund rather than paid personally to an individual object.

What rights do objects of a discretionary trust possess?

They may require the trustees to exercise their discretion, remain within the trust terms and comply with their fiduciary duties.

Must trustees exercise the discretion under a discretionary trust?

The trustees must exercise and periodically consider their dispositive discretion rather than leave it unused indefinitely.

What is an example of a discretionary trust?

£10,000 held on discretionary trust for the settlor’s wife and three children.

What is a power of appointment?

A right to decide whether property should be distributed and, if so, to which person or people within a defined class.

Who is the donor of a power of appointment?

The person who creates the power.

Who is the donee of a power of appointment?

The person authorised to exercise the power.

Who are the objects of a power of appointment?

The potential recipients in whose favour the power may be exercised.

What are the two principal types of power of appointment?

Personal powers and fiduciary powers.

What is a personal power of appointment?

A power given to someone who is not acting as trustee and who is not required even to consider exercising it.

Is the holder of a personal power required to consider exercising it?

The holder may ignore the power entirely.

What is a fiduciary power of appointment?

A power held in a fiduciary capacity, usually by a trustee, requiring the holder periodically to consider whether it should be exercised.

Must a trustee holding a fiduciary power actually exercise it?

The trustee must consider exercising it but may properly decide not to make an appointment.

What is the principal distinction between a discretionary trust and a power of appointment?

A discretionary trust must be exercised, whereas a power of appointment may remain unexercised.

Who holds the discretion under a discretionary trust?

The trustees.

Who holds the discretion under a power of appointment?

The donee of the power.

What right do objects of a discretionary trust have regarding the trustees’ discretion?

They can require the trustees to exercise the discretion properly.

What right do objects of a power of appointment have?

They may prevent or challenge an appointment made outside the power or for an improper purpose.

Can an object of a power of appointment require an appointment in their favour?

An object cannot ordinarily compel the donee to exercise the power or to select them.

Do objects of either a discretionary trust or a power of appointment have proprietary interests before an appointment?

Neither has an individual proprietary interest in the property before the discretion or power is exercised in their favour.

Why may a donor include a gift-over after creating a power of appointment?

Because the power may never be exercised, the gift-over specifies who receives the property if it remains unappointed.

What wording commonly indicates a discretionary trust?

Mandatory wording such as “must distribute” or “shall apply” suggests a discretionary trust.

What wording commonly indicates a power of appointment?

Permissive wording such as “may distribute” suggests a power.

Why does the identity of the person holding the discretion matter?

Discretion held by trustees is more likely to form a discretionary trust, while discretion held by a third party is more likely to be a power.

What does the presence of a gift-over suggest?

It suggests that the preceding provision is a power that may remain unexercised.

Does the absence of a gift-over prove that a provision is a discretionary trust?

The absence of a gift-over is not decisive, so the wording and arrangement must be considered as a whole.

What is a fixed trust?

A trust under which the settlor determines each beneficiary’s entitlement and leaves the trustees no discretion over who receives what.

What must trustees do under a fixed trust?

They must distribute the trust property exactly as the settlor directed.

What is a fixed trust for a sole beneficiary?

A trust under which the trustee holds legal title and one beneficiary owns the entire beneficial interest.

What proprietary right does the sole beneficiary of a fixed trust possess?

An equitable proprietary interest in the whole trust property.

What personal rights does the sole beneficiary of a fixed trust have against the trustee?

The beneficiary may enforce the trust and sue the trustee for breach of duty.

To what property is the sole beneficiary of a fixed trust entitled?

The beneficiary is entitled to all trust income and capital.

What is a fixed-shares trust?

A trust under which each beneficiary is entitled to a predetermined proportion of the income and capital.

Can trustees alter beneficiaries’ shares under a fixed-shares trust?

The trustees must follow the fixed proportions and cannot vary them.

What proprietary interest does each beneficiary of a fixed-shares trust possess?

Each beneficiary has an equitable proprietary interest in their specified share.

Can a beneficiary with a fixed share sue for breach of trust?

Each beneficiary may enforce the trust and sue the trustees for a breach affecting their interest.

Who owns the entire beneficial interest under a fixed-shares trust?

The fixed beneficiaries collectively own the whole beneficial interest.

What is a successive-interest trust?

A fixed trust under which different beneficiaries receive interests in the same property consecutively over time.

What is a life-interest trust?

A successive-interest trust under which one beneficiary receives income for life and another becomes entitled to the capital after the first beneficiary’s death.

Who is the income beneficiary under a life-interest trust?

The life tenant, who is entitled to the income during their lifetime.

Who is the capital beneficiary under a life-interest trust?

The remainderman, who becomes entitled to the capital when the life tenant’s interest ends.

What rights does a life tenant possess?

The life tenant is entitled to the trust income during life but has no right to dispose of the capital.

What rights does a remainderman possess during the life tenant’s lifetime?

The remainderman has the capital interest but no right to the income allocated to the life tenant.

Who commonly receives a life interest in a family trust?

A surviving spouse is commonly made the life tenant.

Who commonly receives the remainder in a family trust?

Children are commonly made the capital beneficiaries or remaindermen.

How do the life tenant and remainderman together own the beneficial interest?

Together they hold the entire beneficial interest, divided between present income and future capital.

Must every successive-interest trust be a life-interest trust?

Successive interests may be structured by reference to ages, events or other periods rather than a beneficiary’s lifetime.

How does a trust of a house for A for life, remainder to B and C equally, operate?

A receives the income for life, while B and C each hold a 50% interest in the capital after A’s death.

How does a trust for A for life, remainder to B if B survives A and otherwise to C, operate?

A receives the income for life, and the fixed mechanism determines whether B or C receives the capital when A dies.

Is a trust uncertain merely because it is not known whether B or C will receive the capital?

The trust remains fixed because the event determining entitlement is specified and the trustees can identify the beneficiary when the event occurs.

What is capital in a trust?

The underlying trust asset, such as land, a bank fund or shares.

What is income in a trust?

The return generated by the capital over time, such as rent, interest or dividends.

What metaphor distinguishes capital from income?

Capital is the tree and income is the fruit produced by it.

What is an example of capital and income where the trust holds land?

The land is capital and rent received from it is income.

What is an example of capital and income where the trust holds money in a bank account?

The deposited money is capital and the interest earned is income.

What is an example of capital and income where the trust holds shares?

The shares are capital and dividends are income.

What happens to income where one beneficiary has the sole capital interest and no separate income interest is created?

The capital interest carries the income arising during the trust period.

Does a capital interest carry income only where it is vested?

Both vested and contingent capital interests may carry intermediate income where no separate income interest is created.

What is intermediate income?

Income arising before a beneficiary’s capital interest vests in possession.

What is the position where land is held on trust absolutely for one beneficiary?

The beneficiary is entitled to both the land as capital and all income arising from it.

How is income dealt with where the sole absolute beneficiary is aged 18 or over?

The income is paid to the beneficiary as it arises.

How is income dealt with where the sole absolute beneficiary is under 18?

The trustees may accumulate it or apply it for the beneficiary under a power of maintenance.

What is a power of maintenance?

A power allowing trustees to use trust income for the maintenance, education or benefit of a beneficiary who is not yet entitled to receive it directly.

What is a vested capital interest that is not yet vested in possession?

A present and unconditional beneficial entitlement to capital whose enjoyment or transfer is postponed until a future date.

How does a trust of a house for a daughter until age 21 and then absolutely operate?

The daughter has a vested capital interest immediately, but it vests in possession when she reaches 21.

Is reaching age 21 a condition of receiving the capital under a trust “for the daughter until 21, then absolutely”?

Her entitlement is already vested, and age 21 only postpones possession rather than making entitlement conditional.

Who receives intermediate income under a trust for a daughter until age 21 and then absolutely?

Because no separate income beneficiary is named, the daughter’s capital interest carries the intermediate income.

How is intermediate income dealt with if the daughter with a vested interest is aged 18 or over?

The income is paid to her as it arises.

How is intermediate income dealt with if the daughter with a vested interest is under 18?

The trustees decide whether to apply the income for her benefit or accumulate it.

What is a contingent capital interest?

An interest that arises only if the beneficiary satisfies a specified condition.

How does a trust of a house for a daughter if she reaches 21 operate?

The daughter receives the capital only if she satisfies the condition of reaching age 21.

Does the daughter have a vested interest under a trust for her if she reaches 21?

Her interest is contingent until she reaches 21.

Who is entitled to intermediate income where the sole capital interest is contingent and no separate income beneficiary is named?

The contingent capital interest carries the intermediate income during the trust period.

How is intermediate income under a contingent trust dealt with where the beneficiary is aged 18 or over?

The beneficiary is entitled to the income as it arises, even though the capital interest remains contingent.

How is intermediate income dealt with where the contingent beneficiary is under 18?

The trustees may apply or accumulate it under their relevant powers and duties.

What happens if a contingent capital interest fails and there is no gift-over?

The trust property returns to the settlor or the settlor’s estate under a resulting trust.

What is a successive-interest trust involving a split between capital and income?

A trust under which one beneficiary receives income first and another receives the underlying capital later.

How does a trust of a house for A for life, remainder to B, divide the beneficial interests?

A is entitled to income such as rent during life, while B is entitled to the capital after A’s death.

Can A dispose of the capital under a trust for A for life, remainder to B?

A’s interest is limited to income and does not include the right to dispose of the capital.

Is B entitled to income during A’s life under a trust for A for life, remainder to B?

B’s entitlement is to future capital, while the income belongs to A during A’s lifetime.

What is an example of a successive-interest trust not based on a life interest?

Income may be paid to A until A reaches 18, after which the capital passes to B.

How may a multi-generational successive-interest trust operate?

Income may pass successively to children and grandchildren, with the capital eventually passing to a charity.

What perpetuity limit applies to the vesting of capital under a trust?

The trust must ensure that the capital vests in a beneficiary or charity within the applicable 125-year perpetuity period.