ACCA Advanced Taxation (ATX) Practice Exam

What is one of the reasons an individual may choose to set up a trust?

1. To increase personal wealth

2. To pass wealth through generations or mitigate IHT effects

3. To reduce administrative costs

4. To avoid any form of taxation

The correct answer is: To pass wealth through generations or mitigate IHT effects

Setting up a trust often serves the purpose of passing wealth through generations or mitigating the effects of Inheritance Tax (IHT). This is a significant reason for individuals to consider establishing a trust as it allows for effective estate planning. By transferring assets into a trust, the individual can control how and when the assets are distributed to beneficiaries, which can help preserve wealth across generations. Additionally, trusts can provide tax advantages, as assets held within a trust may not be included in the individual's estate for IHT purposes, thereby potentially reducing the tax liability. In contrast, while increasing personal wealth could be a side benefit, it is not a primary reason for establishing a trust. Trusts also do not inherently reduce administrative costs; in fact, they can introduce complexities and costs in terms of setup and ongoing management. Furthermore, setting up a trust is not a means to completely avoid taxation. Trusts may be subject to their own tax rules, and income generated by the trust can still be taxable. Thus, mitigating IHT effects while ensuring a smooth transfer of wealth is a more focused and valid reason for creating a trust.