Tax tip: Unravelling discounted gift trusts

Many investors have established discounted gift trusts (DGTs). These involve a special trust usually of an investment bond under which the settlor(s) is entitled to a stream of fixed regular payments from the trust. These are typically up to 5% a year of the original investment in the bond. This enables the trustees to use the annual 5% tax deferred withdrawal facility to make the payments to the settlor.

Because the settlor’s rights are carved out under the trust there are no gift with reservation or pre-owned assets tax implications.

On the settlor’s death (or second death for a jointly settled trust) the remaining trust fund is held for the beneficiaries. While most DGTs are established using discretionary trusts flexible or bare trusts can also be used.

Assuming the bond continues in existence on the settlor’s death (because a life assured...