What is a Life Interest Trust?

Life interest trust of the family home on death

When a property is owned jointly, it is worth considering whether you should create a life interest trust in your will. This article explains how that can be done, along with the advantages and disadvantages.

While the term spouse is used below, these provisions apply equally to unmarried couples and those in a Civil Partnership. For the purposes of this note, property refers to the house or flat you live in.

What is a life interest trust of property?

A life interest trust allows a beneficiary to use the property during their lifetime, but on their death, it passes to a third party.

For example, in a common scenario, one spouse may choose to leave their share of the family home to the surviving spouse for the duration of their life. After the surviving spouse’s death, the property would then be transferred to their children or another beneficiary named in the trust. This structure helps to ensure that the property is used and enjoyed by the beneficiary during their lifetime, while also providing for the intended heirs after their passing.

In this arrangement:

Advantages of a Life Interest Trust

Control Over Inheritance: Ensures that your share of the property passes to your chosen beneficiaries (e.g., children) regardless of future circumstances, such as remarriage or disputes.

Protection Against Care Home Fees: The deceased’s share of the property is safeguarded from being used to pay for the surviving partner’s care home fees.

Flexibility for the Survivor: The survivor can continue living in the home or move to a new one, provided the trust terms are upheld.

Second Marriage Protection: Helps address inheritance concerns in blended families, ensuring children from the first marriage still inherit the deceased’s share of the property.

Disadvantages of a Life Interest Trust

Restricted Access to Capital: The surviving partner cannot access the deceased’s share of the property’s value as capital (e.g., for large expenses).

This can be a significant issue if the couple’s main asset is the property. The surviving spouse only retains a right to occupy the property but not the full ownership of it.

Inheritance Tax (IHT) Considerations

Thresholds and Allowances: As of 2024, the IHT threshold remains £325,000 per individual, with a transferable Nil Rate Band of £650,000 for couples. The Residential Nil Rate Band (RNRB) allows an additional £175,000 per person when passing the family home to direct descendants, increasing the combined allowance to £1,000,000 for qualifying estates.

Unmarried Couples: Unlike married couples and civil partners, unmarried couples cannot benefit from the spouse exemption or transferable allowances, which may result in a higher IHT liability.

A life interest trust does not save on inheritance tax, as the surviving partner is treated as owning the entire property for tax purposes. However, it ensures that the deceased’s share passes to their chosen beneficiaries.

Joint Tenants: The property automatically passes to the surviving owner on death. A life interest trust cannot be created unless the joint tenancy is converted to tenants in common.

Tenants in Common: Each party owns a distinct share of the property, which can be left to beneficiaries in a will.

A joint tenancy can be turned into a tenancy in common by serving a notice of severance and registering it with the Land Registry.

Future Changes in 2025

While no concrete changes to inheritance tax or care fee regulations have been confirmed for 2025, the government is reviewing the current IHT system.

Proposals under discussion include:

Potentially abolishing or reforming the Inheritance Nil Rate Band.

Simplifying or increasing the standard Nil Rate Band, which has remained unchanged since 2009.

Adjustments to exemptions for gifts and trusts to close perceived loopholes.

Care funding reforms have also been delayed, but future caps on care costs may affect how life interest trusts interact with care home fee calculations. It is essential to review your estate plan regularly to ensure it aligns with any changes in the law.

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