Swiss Trust World United (STWU)

Why set up a trust?

Top 10 Reasons to Set Up a Trust

First of all, despite recent media misrepresentations about trusts, taxation and confidentiality are not amongst the top ten reasons to set up a trust.

Tax laws are constantly changing; reporting and disclosure rules have become prominent over the years, thus restricting legitimate confidentiality purpose. Nevertheless, there are many more significant reasons why trusts have been widely used in the past few centuries, so this is not expected to change in the near future.

It is worth mentioning that even if the legal definition of a foundation is different, the reasons for establishing a trust stated in this article can be applied to foundations as well to a large extent.

Trust in layman's terms

A trust is basically donation over time and can be used to overcome the limitations of traditional vehicles (such as wills, donations or nuptial agreement). Historically, trust funds have often been regarded as pure estate planning tool for individuals and families, but they can actually play an important role in commercial transactions.

A trust is a fiduciary arrangement where the trustee will hold title of assets, transferred to it by the settlor, on behalf of beneficiary(ies). These have the proprietary interest in the assets.

A trust can be revocable, define a fixed interest or a structure in which the trustee will exercise certain discretionary authorities within a predetermined scope.

Reasons for setting up a trust lie in private law

Although trusts are typically used in common-law countries, they are now recognized in many civil law countries and can establish connections between different legal systems.

It is a common phenomenon to own assets (such as foreign vacation property, bank accounts, shares, companies or other investments) in more than one country. However, cross-border ownership and succession still deal with many challenges.

Reason 1:

To Bypass Probate

Probate is the legal process of proving in court (or with the competent public authority) that a deceased person’s will is valid, or in the case of intestate succession (there’s no will), whereby the competent authority decides to distribute the property of the deceased according to the hereditary succession law. The grant of probate is the first step in administering the deceased’s estate, resolving all claims and eventually distributing the deceased’s property. Before completing the process, the assets of the deceased are basically “frozen.”

When a person who owns assets in multiple countries passes away, it can be troublesome to deal with foreign estate institutions. In addition to cross-border inheritance and taxation, there are also language barriers; hence the entire process can be very complex, expensive and long-running. The necessary process required varies from different nations and depends on various factors.

With assets transfer under a trust, these assets will no longer be owned by others, and hence do not fall under probate when the settlor passes away. It can effectively circumvent the lengthy and expensive probate procedure and avoids the process where the court must appoint someone to administer the assets. The differences in jurisdiction are alleviated, and assets can then be managed and accessed without any interference.

Reason 2:

Presumption of Decease

A person may be legally declared dead despite not having direct proof of the decease. It usually happens when a person has been missing in action for a long time and there is no evidence that the person is still alive, or after a shorter period of time when the circumstance of the person’s disappearance overwhelmingly supports the belief that the person is deceased, like in the case of a plane crash.

This is indeed a relatively rare situation, so people often do not plan for it. However, if this happens, the financial consequences for the family of the deceased can be huge, as depending on the applicable laws, the waiting period may be very long, and the property of the missing person will be frozen during that period.

With assets transfer under a trust, these assets will no longer be owned; so in the case where the settlor is missing, it will not fall under the presumption of decease rule. If needed, the trust can provide immediate support to their family members.

Reason 3:

Sustainable Family Provision and Lifestyle Planning

Sudden sizeable inherited wealth can be difficult to adapt to, so the loss of value is rather common. The heir(s) may not be financially proficient, or be the prey of fortune hunters, or simply lack long-term planning.

The legal system of some countries may not provide adequate solutions for unmarried, homosexual relationships couples, or those with complicated family arrangements. For instance, unmarried couples may not benefit from retirement assistance as the surviving spouse, may not be entitled to marital deductions on gift, or may not be subject to certain intestacy laws.

With the assets transfer under a trust, the arrangement of these assets can be made under predetermined governance to provide precise provisions for the distribution of specific assets as stated by the settlor. In this way, trusts can also greatly reduce possible conflicts between family members. In addition, the trust can be further customized so that the beneficiary’s spouse does not have access to the assets left to the married beneficiary without his/her consent. This will facilitate the growth of assets over time and thus benefit future generations and current beneficiary(ies). The settlor can plan for the family after his/her demise and specify exactly when and how the family members will receive their inheritance.

Reason 4:

Safeguard Vulnerable Family Members

The well-being of the vulnerable (such as minors, disabled or unstable dependents) is often a concern for every parent. Planning for own or dependant’s disability in advance can make a big difference. Traditional vehicles have limited flexibility and often fail to provide sufficient comfort for this purpose.

With the assets transfer under a trust, trust clauses can be made to provide protection for the vulnerable; it is flexible enough to adapt to various situations without forgetting those that may need less help. In addition, the trust can also be used to pay for education and medical expenses.

Reason 5:

Retaining Business

Business owner may have formulated clear strategies for the business, its management and employees, without intending to harm its successors. However, future generations may have different goals than the original founder, and even differ amongst themselves. Or, they simply do not have the capability to manage and grow the business. It will often lead to family conflict and damage the business.

With business transfer under a trust, business assets can be placed under predetermined business and family governance, which incorporates a framework for family or third-party involvement, as well as mechanism for dispute prevention and conflict resolution.

Reason 6:

Assets Consolidation

Assets held in the name of others are usually diverse and fragture, which makes it difficult and expensive to have effective monitoring and management. Too many professionals are involved and deal with various relationships. This may lead to the critical situations being overlooked or discovered too late.

With assets transfer under a trust, assets are consolidated. Therefore the trustee will be accountable for them and if desired, the settlor can have only a single point of contact. Consolidation can certainly bring provide benefits of scale, and most importantly, it can simplify the accounting and management of assets, liabilities, income and costs.

Reason 7:

To Avoid Contest

Planning for asset safety is important in succession, as it may cause various disputes, such as contested lifelong gifts, alleged violations of set rules for asset transfers that restrict the testamentary freedom, claims from personal or corporate creditors of the deceased, or in the case of political insecurity. As a result, assets may be transferred to recipients who were not intended by Settlor.

Depending on the jurisdiction, a trust can safeguard against anyone who intends to challenge the assets distribution through legal proceedings. However, please note that although trust is contest-resistance, it does not mean that it is entirely impossible.

With assets transferred under a trust, assets can resist challenges more effectively, thereby benefiting the intended beneficiaries.

Reason 8:

Immigration

“If you wish to travel far and fast, travel light”. If you’re looking to change your country of residence, personal ownership of assets may be troublesome. The administrative burden of changing various ownership titles and registers, coupled with exit taxation rules will undoubtedly be a great challenge. The unexpected consequences due to unfamiliar systems can be significant. It is strongly recommended to seize planning opportunities and incentive measures before relocation.

With assets transfer under a trust, such problems can be fully prevented or at least simplified; it can also optimize pre-relocation planning.

Reason 9:

Flexibility

Once wills, donations and nuptial agreements are finalized, they become inflexible; they are also relatively troublesome and hard to adapt. There is almost no active management for will, and it may become irrelevant once the circumstances change over time. Donations cannot be limited in many ways, such as through usufruct.

With assets transfer under a trust, flexibility has been incorporated into the legal vehicle. Usufruct provisions can be added in the trust, such as the use of the family property by the surviving spouse after the settlor’s demise or the ongoing dividend distribution of to the settlor. Trust is relatively easier to adapt, and memorandum of wishes can be amended in a quick and cost-effective manner. The trustee can better adapt to changing circumstances over time.

Reason 10:

Philanthropy activities

Charitable trusts are one of the popular ways to make donations to charitable organizations and designate the assets that will ultimately benefit specific organizations or goals. The owner’s charitable goals can be specified as long-term and beyond the owner’s demise; it should be executed in a specific but flexible way over time.

With assets transfer under a trust (such as money, real estate or art piece), charitable goals can be set indefinitely and ensure that the intended benefits are safeguarded. If the assets in the trust are property or work of art, these assets can also be enjoyed after being placed in the trust and you can rest assured that the assets will eventually support your designated cause. Besides, the assets are also protected if the settlor’s family wants to challenge the charitable objective after his/her demise.

The trust’s legitimate benefits in taxation or confidentiality depend entirely on the applicable regulations of the country of the settlor and beneficiaries. These regulations are often changed, hence taxation and confidentiality should not be the main reasons for setting up a trust.

Glossary.

Trust.

Main Features

The term ‘trust’ refers to a legal relationship when the settlor transfers particular assets to one or more persons (trustees) in accordance with a trust deed, where the trustee(s) is obligated to manage and use the given assets for a purpose intended by the settlor for the interest of one or more third parties (beneficiaries).

Historically, a trust is a legal relationship that originated in England, so it is mainly developed and used in common law countries (United Kingdom, United States, Australia, Canada, South Africa and New Zealand). Besides, institutions similar to trusts can also be found in other countries like Japan, Panama, Liechtenstein, Mexico, Colombia, Israel and Argentina.

Trust has proven to be a very flexible vehicle in practice, and it is often used for estate planning and personal asset protection. Besides, trusts in the Anglo-Saxon legal world are one of the most commonly used structures for employee pension plans, charitable institutions, as well as the implementation of employee stock option plans for companies that are listed on the stock exchange. Given the various possible forms of trusts, it would be nearly impossible to list all types of trusts and would be ineffective for determining their tax purposes. It is recommended to fix the tax treatment principles of trusts independently from the relevant type of trust.

A trust can be established through legal act between living persons or through testamentary document.

The structure of the trust may be similar to that of the Swiss foundation, but the trust does not have a separate legal personality. On a fiduciary basis, the trustee is the holder of trust assets from a formal point of view; but on the other hand, trust is not just a contract. The settlor is the person who initially established the trust, but after the trust is created, it essentially becomes a legal relationship between the trustee and the beneficiary, which is mainly governed by the trust deed and secondarily by the applicable legal system’s specific regulations. The settlor enjoys relatively extensive freedom in establishing trusts. Once the trust is established, the degree of influence of the settlor on the trust will become very limited, just like the founder of a Swiss foundation. In fact, after the establishment of a trust, the main responsibility of the trustee is to safeguard the interests of the beneficiaries and not the settlor. One of the typical features of a trust is the complicated legal relationship related to the trust assets. The trustee is the owner of the trust assets under civil law (legal interest in common law), but he/she must manage the trust assets separately from his own assets. If the trustee passes away or goes bankrupt, the assets are not regarded as his/her own assets, and are still subject to the trust’s applicable law and held separately for the beneficiary or new trustee to be appointed.

The differences between a trust and a foundation

The purpose of a Swiss foundation is similar to a trust, which is to assign assets to a specific purpose (art. 80 ZGB). After the foundation is established, it will obtain the status of a legal entity; the trust, on the other hand, does not have the status of a legal entity, therefore it has no legal capacity and cannot own assets. In contrast to a trust, a foundation becomes the owner of assets endowed for its specific purpose.

Swiss trust or a Fiducia is based on a contractual relationship (a mandate in accordance with art. 394 et seq. OR). The mandate must be accepted by the trustees in order to form the contractual relationship. On the other hand, the trustee’s acceptance is not needed to create a trust. Therefore, the settlor can actually appoint any person as the trustee through a unilateral instrument during his/her lifetime, or through a testamentary document that will take effect upon his/her death. It is similar to the appointment of a will executor under the Swiss inheritance law, which gives the person the status of an independent fiduciary in his/her own right.

A trust is more than a contract. The trust may initially be established by the settlor, but after its establishment, it is mainly a legal relationship between the trustee and the beneficiary. After the trust is set up, the primary duty of the trustee is to protect the benefits of the beneficiaries, not the settlor.

The Hague Convention on the Law Applicable to Trusts and on their Recognition

The Hague Convention on the Law Applicable to Trusts and on their Recognition took effect in Switzerland on July 1, 2007. The Convention enables the recognition of foreign trusts in civil law in accordance with internationally recognized norms, thereby enhancing the legal certainty in this regard.

The tax treatment of trust will be governed entirely in accordance with Swiss tax law. Art. 19 of the Hague Convention clearly stipulates that the Convention does not prejudice the power of the States in financial matters. Therefore, the implementation of the Hague Convention does not affect the tax treatment of trusts.

Terms Definition

Settlor.

The settlor is the entity who establishes a trust between living persons or upon death through legal acts. When the settlor establishes a revocable trust, he/she still has control over the trust assets. Alternatively, he/she can also establish an irrevocable trust, in which case he renounces ownership and no longer owns the rights and obligations of the trust assets in principle

With assets transfer under a trust, flexibility has been incorporated into the legal vehicle. Usufruct provisions can be added in the trust, such as the use of the family property by the surviving spouse after the settlor’s demise or the ongoing dividend distribution of to the settlor. Trust is relatively easier to adapt, and memorandum of wishes can be amended in a quick and cost-effective manner. The trustee can better adapt to changing circumstances over time.

Beneficiary.

The beneficiary(ies) is the person or group of people who benefits from the distribution of a trust. The settlor can appoint oneself or any other natural/legal entity (whether domestic or foreign) as the beneficiary(ies). Trust assets can be distributed to beneficiaries during the lifetime of the settlor or after his/her demise. The beneficiary can legally sue both for claims to the trust assets payment and the trustee’s dutiful administration of the trust. He/she also possess economic ownership of the assets of the trust (equitable interest in common law). In addition, he has the right to request for segregation of trust assets in case of trustee bankruptcy. In other words, the beneficiary not only has an actionable right with regard to benefits, but also makes him a supervisory authority with certain rights of oversight and supervision. The beneficiary can demand that the trust assets be restituted to the trust or trustee in the case where the trustee mislays the trust assets.

Trustee.

Through the establishment of a trust, certain assets are transferred to one or more natural/legal entity (trustees) whose responsibility is to manage these assets and use them for the purposes intended by the settlor. The trustee has full power to dispose of the trust assets (ownership in civil law), but he/she has the obligation to administer the assets of the trust for the benefit of the beneficiaries according to the trust provisions. He shall administer and use the assets of the trust in his own name in accordance with the terms of the trust, as an independent legal holder towards all third parties, but separate from the assets of his/her own.

The trustee has the obligation to allow the beneficiary (but not the settlor) or any protector to access the administration and management records of the trust.

Protector.

The protector is a natural or legal person who is generally granted by a settlor in order to monitor whether the trustee is fulfilling the obligations according to the settlor’s wishes. The authorities and the responsibilities of the protector can vary depending on the settlor’s intention, which will be stated in detail in the trust provisions.

Trust Deed.

A trust can only be created with written instrument signed by the settlor and the trustee (though the trustee’s agreement is not required to create a trust). The trust document (trust deed) is binding on the trustee, and the administration and preservation of the trust assets value are specified in favour of the designated beneficiary(ies).

Letter of Wishes.

The settlor can convey his guidance and wishes to the trustee through a letter of wishes. Contrary to the trust deed, the letter of wishes is not legally binding, so it only indicates on how the settlor wants to have his/her trust administered. Basically, a letter of wishes has actual significance only in irrevocable and discretionary trusts.

Revocable/irrevocable trust.

There are differences between a revocable trust and an irrevocable trust. The latter is further classified into so-called discretionary trust and fixed interest trust. This is essential for tax purposes to identify whether the settlor has completely divested his/her own assets when creating the trust, or if he still retains the legal or economic right to resort to the assets of the trust.

If the settlor sets up an irrevocable trust, he will relinquish the ownership of the trust assets definitively, and in principle he no longer owns the rights or obligations of these assets. Or, the settlor can set up a revocable trust. Generally speaking, if the settlor appoints himself as the trustee or beneficiary, there will be no irrevocable divestment. Moreover, if the settlor retains any influence on the trust assets in any form, the divestment will not be recognized. The factors below (derived by examples from the Federal Court’s practice related to family foundations) distinguish between revocable trusts and irrevocable trusts.

Can the settlor.

  1. gain from capital distributions from the trust assets?
  2. gain from income distributions of the trust assets?

Does the settlor have the right to to.

  1. dismiss the trustee and designate another trustee?
  2. designate or cause the designation of new beneficiaries?
  3. change the protector who has authorities comparable to those of trustee?
  4. modify the trust deed or cause it to be modified?
  5. terminate the trust?
  6. ask for trust liquidation?
  7. exercise a veto over the trustee’s decision on the trust assets?

If there is an affirmative answer to any of the above questions, the trust is regarded as a revocable trust for tax purposes.

Revocable trust.

For revocable trusts, the settlor reserves the right to terminate the trust in the future to recover the remaining assets or transfer them to a third party. In other words, the settlor has not completely divested of the assets.

In terms of tax purposes, the ultimate decisive factor is not the title in the trust deed, but the economic reality. If the assets divestment is not absolute, a trust designated as «irrevocable» may also be regarded as a revocable trust.

After the death of the settlor, a revocable trust will become an irrevocable trust, unless the revocation right can be exercised by others or is transferred to another person.

Irrevocable fixed interest trust.

For fixed-interest trust, the provisions regarding the beneficiaries and their respective rights can be found in the trust deed. Therefore, for this type of trust, the trustee has no discretion freedom in the distribution of the trust’s income and/or capital. The trustee has no economic ownership of the trust assets or any independent freedom of disposition over the trust assets. When establishing an irrevocable fixed interest trust, the settlor has completely divested of his/her own assets.

Compared with discretionary trusts, the rights of its beneficiaries are merely in the nature of expectancy, while the beneficiaries of fixed interest trusts have legally enforceable claims on assets. Therefore, the beneficiaries of the fixed rate trust can be regarded an usufructuary by analogy.

Irrevocable discretionary trust.

Generally speaking, the trust deed of a discretionary trust includes only the broadly defined beneficiaries. The trustee will decide who will ultimately receive the trust distribution.

The founder may indicate to the trustee the reasons for establishing the trust in a letter of wishes, and give suggestions (not legally binding) on how he wishes the trustee to exercise his authority.

If the settlor pays special attention to a particular issue, it can be stipulated in the contract that some trustee’s decisions need to be approved by the protector in advance.

In a discretionary trust, the beneficiaries do not have a proprietary interest in the assets since it is not yet certain who will receive the distribution and when and how much benefit will be received. Therefore, the rights of the beneficiaries are in the nature of expectancy or mere possibility of a distribution.