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Onshore Application

I n common law countries the use of onshore trusts for those locally domiciled and resident, at least for tax mitigation purposes, has greatly diminished. In the United Kingdom, for example, there has been a rash of legislation in recent years (such as S.739-740 of The Taxes Act, 1988, S. 110 of The Parliament (Finance) Act, 1989 and S. 87-97 of The Taxation of Chargeable Gains Act, 1992)- which has prevented the use of tax avoidance mechanisms unless there existed a genuine commercial reason, ascribed British residence to foreign trustees and made Settlor's personally liable for their trusts capital gains. However, as will be discussed later, there can still be considerable advantages available for those not domiciled, even if resident, in countries such as the United Kingdom.

Offshore Application

Today, the majority of tax mitigation trusts are established outside of high taxation common law countries like the United Kingdom. The principle reason is that 'tax friendly' jurisdictions such as Jersey and the Isle of Man provide respectability, greater confidentiality and hence protection against the ubiquitous reverse burden of proof principle employed in most high tax countries. If one on the other hand is domiciled, or perhaps resident, in a civil law jurisdiction one must be careful that trusts are recognized.

The International Recognition of Trusts

The main problem with the international recognition of trusts is that civil law countries have difficulty coming to terms with the concepts involved. Certainly, the idea of property ownership being in limbo for a given duration is alien as is that of beneficial, or true, ownership not necessarily resting with the shareholders. In addition, most civil codes (at least in Europe) adopt the Legitima Portia Principle; a 'Principle' which seeks to prevent a free disposal of ones assets in favour of guaranteeing specific proportions to ones next of kin. These facts, together with a reluctance to tie up capital and/or property for future generations, can result in civil law countries refusing to recognize trusts. Nevertheless, as a general rule Western European civil law jurisdictions will often accept a validly constituted foreign trust so long as its enforcement does not cause a breach of indigenous law.

The Hague Convention 1984 Effective 1st of January 1992

In an attempt to introduce greater harmony between the laws of common and civil law jurisdictions an international meeting was held in the Netherlands. This set out to establish the acceptance of certain principles, which should be applied by the courts of the signatory nations. To date, it has been ratified by the United Kingdom, Canada, Australia and, more surprisingly, Italy. In respect to the latter this should provide greater certainty for those with trust assets in this jurisdiction.
The attributes to be ascribed to a trust are elucidated in Article 2, however, it will be noted that they may still differ from those of an established trust jurisdiction. For example, it is quite common for English and Irish courts to imply a trust even if there are no written documents.

Article 2 'Trust Characteristics' as laid own under The Hague Convention 1984  

(i) It is accepted that a trustee has no direct proprietary interest in a trust and that it is not part of his own estate
(ii) Notwithstanding the above, title to the trust assets can be in the name of the trustee or held on his behalf by another
(iii) A trustee has a fiduciary duty to manage, dispose or employ trust assets in the manner prescribed by both the trust instrument and applicable law .

Advantages

Can transfer legal ownership from a Settlor to trustees without giving the aforementioned direct beneficial interest in the trust property. Can provide an effective mechanism of distributing trust capital and/or income to minimize tax consequences for beneficiaries. Prevents immature or frivolous beneficiaries from dissipating family assets and, therefore, 'protecting' future generations.
May be able to prevent the application of the Legitima Portia Principle in respect of assets in civil law jurisdictions. May still be very useful for tax mitigation purposes especially for those not domiciled in a common law area where anti-trust legislation may exist. The use of 'Protectors' can significantly reduce problems caused by dishonest or incompetent trustees.

Disadvantages

Many of the traditional tax benefits no longer exist for those resident and domiciled in common law countries because of antitrust legislation. In the United States such benefits are not normally available even for those merely resident. There may be difficulty in getting a civil law jurisdiction, particularly in Eastern Europe, to accept the validity of a trust instrument even if this does not cause any conflict with indigenous laws.  By definition the employment of a trust must result in the former 'owner(s)' of the trust property losing direct control over their former assets. Whilst the settlement of a standard format trust may not be prohibitively expensive the maintenance may be if the trustees have to play an active role and/or have specialist skills.
All trusts tend to tie up capital and are generally less productive and flexible than directly controlled mechanisms. The rule against perpetuities is almost universally employed and will result in the trust having a finite duration.


 

   

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