Irrevocable trusts

Irrevocable trusts are the primary form of the “classic” Anglo-American trusts, which provide for the property ownership transfer from the settlor to the trustee to manage it in the beneficiaries’ favor or to achieve a socially useful goal (education, medical treatment, environmental protection, helping the poor, etc.).

The main advantage of irrevocable trusts is that the rettlor’s creditors are not entitled to claim the property transferred to the trust.

One of their main features of irrevocable trusts is that they cannot be terminated or altered by the primary owner, and ownership cannot be returned to the settlor at his/her sole request. According to the general rule, the settlor loses ownership for the assets transferred to the trust once and for all at the term of its validity. After that, the beneficiaries mostly rely on the trustee to fulfill the trust conditions in good faith and honestly and effectively manage the property in their favor.

In the case if the trustee deliberately or unintentionally violates the trust terms (breach of trust), there are a number of legal mechanisms to protect the beneficiaries’ rights. Moreover, if the settlor does not belong to the beneficiaries, then, under the general rule, he/she does not have the right for protection, since he/she is not legally the property owner.

Irrevocable trusts can be divided into 2 types:

  1. Fixed trusts are trusts in which the rights and obligations of the trustee and beneficiaries are clearly defined, and the trustee has no right to go beyond his/her powers. For example, the trustee is obliged to distribute and pay in equal parts (or in another clearly established amount) a share of the profit to each of the beneficiaries on a monthly basis.
  2. Discretionary trusts are trusts in which the trustee is vested with discretionary powers to manage property in beneficiaries’ favor. At the same time, the beneficiaries have no exact knowledge what kind of benefit and when they will receive and whether they will receive it at all. The trustee, at his/her discretion, may decide not to distribute or pay out profit at all, but to accumulate it to achieve certain goals that do not contradict the trust terms. For example, if the trust is established in favor of minor children, and the trustee understands that they have sufficient means to live, he/she can independently decide to raise funds for their future education, and not pay some amount every month for their livelihood.

In connection with making amendments to the tax legislation of Ukraine, the issue of taxation of CFCs – controlled foreign companies has become urgent for many. Although trusts are not companies in the legal sense of the word, the tax authorities may classify certain types of trusts as analogous of legal entities for taxation purposes.

The practice is still being formed, but as of this day it can be argued that it will be quite difficult for the tax authorities to prove that a discretionary irrevocable trusts are analogous to CFCs, and therefore these types of trusts are gaining more and more popularity.

At the same time, it is possible to answer exactly about the benefits and risks of any trust structure only after a detailed analysis of all the traits, which is impossible without professional lawyers. VigoLex lawyers and tax consultants will be happy to answer all questions of concerned clients.

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