Frequently asked questions about winding up a trust

Winding up a trust can involve a number of legal and tax considerations. The process will depend on the type of trust, the assets it holds and the terms of the trust deed. Before distributing assets, trustees need to consider any capital gains tax, inheritance tax and income tax implications, as well as their reporting and record-keeping responsibilities.

The FAQs below answer some of the common questions trustees may have when considering whether and how to wind up a trust.

Why would someone choose to wind up a trust?

In most cases, it’s because the trust is no longer needed. Trusts are often set up for control purposes, such as when children are young. Once that need for control falls away – for example, when beneficiaries reach a certain age – trustees may feel comfortable distributing the assets and closing the trust.

Who decides whether a trust can be wound up?

This depends on the trust deed. In practice, many trusts are discretionary trusts, where the decision to wind up the trust sits with the trustees. Trustees can decide to close the trust if they believe it is in line with the trust’s terms and in the best interests of the beneficiaries.

Who needs to be involved when winding up a trust?

Winding up a trust often involves both tax advisers and solicitors. Tax advisers focus on planning, calculations and reporting, while solicitors deal with the legal aspects of closing the trust and documenting distributions.

Do beneficiaries have any say in closing a trust?

For discretionary trusts, control sits with the trustees, not the beneficiaries. Trustees must act in the beneficiaries’ best interests, but they are not required to follow beneficiaries’ wishes if those wishes conflict with the terms or purpose of the trust.

What are the key steps involved in winding up a trust?

The process usually involves:

Reviewing the trust deed to confirm the trust can be wound up

Identifying the assets held in the trust

Deciding whether assets should be sold or distributed in specie

Considering Inheritance Tax and Capital Gains Tax implications

Planning how any tax liabilities will be funded

Preparing closing documentation and distributing the assets

Planning is important to avoid unexpected tax charges.

How long does it take to wind up a trust?

Once a plan is in place, the actual winding up can happen very quickly. However, trustees should allow time for asset valuations, tax planning and advice. Where land and property is involved the timing can be dependent on the legal aspects, such as conveyancing. In practice, allowing around six months is sensible, even though the final distribution itself could be done in a very short timeframe.

Is there an Inheritance Tax exit charge when a trust is wound up?

For discretionary trusts, there can be an Inheritance Tax exit charge when assets leave the trust. This depends on the value of the assets and how long they have been held in the trust. The calculation can be complex and is linked to ten-year periodic charges, so advance planning is important.

Can trustees step down instead of winding up a trust?

Yes. Trustees can usually be removed or replaced during the lifetime of the trust, provided the trust deed allows it. For example, if a trustee is no longer able to act due to age or other reasons, new trustees can be appointed without closing the trust.

What responsibilities do trustees have when winding up a trust?

Trustees are responsible for:

Ensuring all tax reporting requirements are met

Submitting any final tax and inheritance tax returns

Settling tax liabilities

Notifying HMRC that the trust has been closed

Ensuring assets are distributed correctly

If HMRC raises any issues later, they will approach the trustees first.

Are trustees personally liable for tax when a trust is closed?

Trustees are not personally liable in their own right, but HMRC will initially look to the trustees if tax remains unpaid. Where tax is intended to be paid by beneficiaries, it is important to document this clearly so responsibilities are understood.

What happens if trust assets can’t be distributed immediately?

A trust cannot be fully wound up until all assets have been distributed. If assets such as property need time to be sold, the trust will remain open until this happens. This may result in additional reporting requirements and delays to closure.

What records should be kept after a trust is wound up?

Trustees should retain trust accounts, tax calculations, returns, valuations and distribution records after the trust has been closed, in case HMRC raises queries at a later date.

Tax considerations when closing a trust

What Capital Gains Tax issues arise when trust assets are distributed?

Distributing assets is treated as a disposal by the trust at market value. Capital Gains Tax may arise based on the gain since the trust acquired the asset, unless reliefs are available.

Can Holdover Relief apply when a trust is wound up

Yes. Holdover Relief can apply for capital gains tax purposes when trust assets are distributed. For discretionary trusts, section 260 relief is most commonly used. Where an Inheritance Tax event arises, Capital Gains Tax can often be held over on both the transfer into and out of the trust. Unlike some other forms of Holdover Relief, this is not restricted to trading assets. However, a formal claim must be made within the required time limits, otherwise the relief may be lost.

For other types of trust, holdover relief may only be available if the asset qualifies as a ‘business asset’ for which specific advice would be needed.

Are there reporting requirements for claiming Holdover Relief

Yes. A Holdover Relief claim must be formally submitted, and there are strict time limits. If the claim is not made correctly or on time, a Capital Gains Tax liability may arise unexpectedly.

How does Inheritance Tax apply when a trust is wound up?

Inheritance Tax depends on the type of trust, value of assets leaving the trust and the timing of the distribution. Exit charges are calculated by reference to the creation of the trust or the most recent ten-year charge. The longer assets remain in the trust after these points, the higher the potential tax charge.

Are there Income Tax implications in the final year of a trust?

There are no special Income Tax charges triggered by winding up. Trustees simply submit a final tax return reporting income received up to the date the trust is closed. From the date assets are distributed out of trust, income arising will be taxed on the new beneficial owner.

Are any tax reliefs available when closing a trust?

Yes. Business Property Relief (BPR) and Agricultural Property Relief (APR) may apply where qualifying assets are distributed, potentially eliminating inheritance tax. Capital Gains Tax holdover relief may also be available, particularly where an Inheritance Tax charge arises.

Are there situations where no Inheritance Tax applies?

Certain types of trust will not trigger an Inheritance Tax charge when wound up, depending on when they were formed and how assets were originally settled into them.

If the trust is subject to Inheritance Tax but qualifies as an “excepted estate” – broadly where its value is below 80% of the nil-rate band – assets can be distributed without Inheritance Tax charges or reporting requirements.

What are common tax mistakes when winding up a trust?

Common issues include failing to obtain advice, missing reporting deadlines, and not submitting Holdover Relief claims on time. These mistakes can result in unexpected and avoidable tax liabilities.

Do trustees need professional advice when winding up a trust?

In most cases, yes. The tax calculations and reporting requirements can be complex, and getting advice helps ensure the trust is closed in the most tax-efficient way and avoids costly errors.

We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information on this page is intended as a general guide only. While we work to keep our content accurate and up to date, we cannot guarantee that it reflects the position at the time you are reading it. No responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm. For more information on our editorial process, click here.

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