If you have young heirs who cannot manage assets yet, you might want an independent professional to manage these for them, in their interest. If you wish to transfer wealth between living generations, you might need a special legal arrangement to achieve that with tax-savings. If you would like to donate funds to a charitable cause, you might want to include your wishes on how these should be managed. Whatever the case may be, should you wish to keep part of your wealth separate, safe and have it managed professionally, in the interest of a third party and under favorable tax conditions, setting up a trust or a trust foundation might be interesting to you.
What is a trust?
A trust is a special relationship in which you as a settlor give another person (a professional) the right to hold your assets as a trustee for the benefit of one or more family members as the beneficiary(ies). The entrusted assets are separate from both yours and the trustee’s personal assets. The trustee has a legal obligation to manage the assets in the interest of the beneficiary. You pay a fee to the trustee for managing your assets, based on a contract.
Trusts have several advantages, such as:
- Safety from bad asset-management. A trust is an excellent way to prevent the shrinkage of the family wealth by potential miscalculated decisions of the next generation. The assets held in trust are managed by a professional chosen by you, even after your death. If you worry about certain heirs becoming unworthy of the family assets over time, you can also set conditions in the contract to prevent them from receiving them.
- Tax-optimization and transfer of wealth between living generations. If you do not wish to wait until the end of your life to transfer wealth down to the next generation, a trust can be a favorable way to achieve that. Trusts can also be particularly fitting for tax-planning. If you put the amount of money to be transferred into a trust, it will be released to the beneficiaries with significant tax savings compared to other forms of passing them on, such as inheritance.
- Securing the future of a young or disabled family member. In the event of your death, or even a temporary circumstance like an illness, the trustee is obligated to finance, supervise and take care of the family member you chose as the beneficiary. This means that you can use a trust to ensure someone’s future even after your passing.
- A (partial) alternative to inheritance. The rules concerning trust can be more flexible than those of last wills and inheritance. For instance, in case of a trust, you have the possibility to set certain conditions concerning the distribution of the assets upon release, allowing for a differentiation between beneficiaries in time or in proportion. You can also name multiple beneficiaries, in a successive or a simultaneous manner, or even apply a combination of both. A trust can also be a helpful tool in dealing with potential disputes between heirs by regulating their shares in advance. In case of a trust, there are no lengthy inheritance proceedings during which no one has the right to manage the estate. With a trust, no proceeds are lost due to the vacancy or uncertainty in management.
Please note that the rules of trust can differ from country to country. We recommend seeking out a local legal professional.
Trust foundation: a special kind of trust arrangement in the Hungarian system
Essentially, it serves the same purpose as a trust, but instead of one person managing the assets for you, an entire entity is created for this purpose. The trust foundation as the created entity gains ownership of the entrusted assets and is responsible for managing them. It can also engage in economic activity to generate income from the assets, however, only in the interest of the beneficiary. However, compared to a trust, a trust foundation is a significantly more structured and complicated method with higher capital and personnel requirements.
What are the main differences between a trust and a trust foundation?
- Minimum capital. In case of a trust, there are no requirements concerning the amount of assets to be managed, whereas the minimum capital for establishing a trust foundation is HUF 600,000,000 (app. EUR 1,500,000). Therefore, trust foundations are advised for higher net-worth individuals, families or businesses.
- Structure. Trust foundations are legal entities with several compulsory statutory requirements on organization, such as a deed of foundation and a formal decision-making process. A simple trust however can more easily be tailored to the parties’ needs, since they regulate their relationship in a contract. There are no additional organizational requirements that apply, unless the parties want them to.
- Personnel. In case of a trust foundation, there are several compulsory statutory requirements on staff, such as a board of trustees, an auditor and members of a supervisory board. This means that you need to appoint more people that you have confidence in to manage and supervise the assets. In comparison, a trust is a relationship between 3 parties: the settlor, the trustee and the beneficiary(ies). Therefore, no personnel is required and you can set it up even with one person that you find suitable to manage your assets.
- Protection from creditors. Both structures offer protection from the settlor’s creditors, since the entrusted assets come to form a separate pool of wealth. However, in case of a trust foundation, the separate legal entity created offers an extra layer of protection. This legal entity can be considered as a quasi “holding company” to manage the assets of multiple family businesses as well.
- Tax benefits. Both a trust and a trust foundation can be an excellent tool in long-term tax planning. However, due to the separate and taxable legal entity, these benefits are more tangible in case of a trust foundation. The transfer of assets by the founder to the trust foundation are not subject to any tax or duty. The withdrawal of capital by the founder is tax-free up to the amount of the initial assets of the foundation. Dividends and capital gains realized by the trust foundation are also tax-free.
- Maximum term. Most jurisdictions have a time limit on trusts, meaning that after a certain time, the entrusted assets need to be released to the beneficiary. Under Hungarial law for instance, a trust can be set up for up to 50 years, whereas a trust foundation is unlimited in time.
- State supervision. Trust foundations are registered legal entities that the state has multiple ways of supervising of. For instance, it is possible to commence court proceedings against the trust foundation to verify the legality of its operation. In case of simple trusts, there might be an obligation to notify an authority of the trust (in Hungary: the Hungarian National Bank), but the possibilities of state supervision are much more limited.
- The possibility to give instructions to the trustee. In case of a trust, the settlor does not have the right to directly instruct the trustee, they can only leave wishes to be followed regarding the management. In comparison, in case of a trust foundation, the right to instruct the trustee can be instituted in the deed of foundation.
Which one should you choose?
Choosing the right legal arrangement for your situation is key. There are many different factors that may apply when selecting the greatest method to manage assets, such as: the net-worth of the family or business, the amount of assets to be entrusted, the number and capacity of beneficiaries, the aim of the transfer of assets and so on. We recommend seeking out a legal professional who can assist and advise you in your asset-planning, so that it is completely tailored to your individual situation and needs.
Forgó, Damjanovic and Partners is a Budapest-based law firm aiming to provide outstandingly high-quality legal service. We work mostly with international clients, may they be corporations, high net-worth individuals or prestigious families. We specialise in complex transactions and legal disputes and cases of a cross-border nature. We offer services on an internationally recognised service level, based on the clients’ individual needs. We are happy to assist you in all questions relating to asset-planning in Hungary.
Find out more about our services on our website: https://fdlaw.hu/