Our advice process is governed by six fundamental steps:
1. Establishing trust goals
Trusts can have a variety of different goals, even within the same structure of trust. For example: a life interest trust will have income and capital beneficiaries, which need to be balanced in the most appropriate way - family relationships can influence the needs and priorities of the two groups and how the beneficiaries should expect the funds to be treated. In this way, the “soft facts” of the settlor’s intention and family dynamics become very relevant considerations. Each trust will have its own blend of dynamics and consequent goals.
2. Risk assessment and composure
In the case of individual investors, attitude to risk is key to the construction of an investment portfolio which fits with their individual risk appetite. In a trust scenario, the level of risk is ultimately determined by the requirement to operate within the legislative framework and meet the goals of the trust rather than the risk appetite of an underlying beneficiary or trustee. Often, therefore, trustees will prefer to adopt a more cautious approach to investment than they would ordinarily take with their own money.
A concept closely aligned to attitude to risk is “composure”. This is a measure of an investor’s emotional ability to withstand falls in the value of investments, i.e. how would they react, It is important for trustees to assess and understand a beneficiary’s composure as this should influence the investment strategy adopted. KMG can help with the assessment of risk and encourages trustees to consider the beneficiaries’ attitudes in this way.
3. Asset allocation
The asset allocation of the portfolio is a key element of its risk and return characteristics. Therefore, the underlying assets should reflect both the trust’s goals and the investors’ attitudes to risk. Trusts often have a long-term investment horizon and therefore even more cautious trusts can include a proportion of riskier asset classes in order to maintain higher potential returns over the longer-term. As diversification is central to the management of risk, any asset allocation should include a number of different asset classes.
Ultimately trustees must be able to demonstrate that the underlying assets meet the suitability criteria, and therefore the investment process involved in making decisions regarding asset allocation is crucial.
4. Investment selection
In the same way that the asset allocation of the trust should be determined by the trust’s goals, the selection of investments within the asset classes should also be made with consideration to the capital and income requirements of the trust. For example, if distributions to beneficiaries are to be met by natural dividend/interest income payments, then high yielding funds are important; if by the disinvestment of assets then liquidity is key.
Whilst in the past a traditional approach might have been to simply invest trust assets in a portfolio of stocks and shares, it is widely recognised now that by doing so, the portfolio is missing out on opportunities for increased diversification of assets.
KMG can demonstrate how collective investments can be an effective way of exposing a portfolio to a wide range of assets, in a cost effective way. By diversifying a portfolio in this way, it is possible to significantly reduce risk and improve opportunities for return. Our dedicated investment team monitor the investment universe and conduct detailed research into each fund and product we recommend, as part of our investment process.
5. Tax wrapper analysis/product selection
Tax and the administrative tax compliance costs involved in running trusts can sometimes make the continuation of a trust less viable. There are a number of ways, however, to minimise the tax and tax compliance costs of a trust.
Choosing the appropriate product can significantly increase the tax efficiency of a trust. By using an investment bond, for example, it is possible to assign segments out of the trust so that they are taxed on the recipient beneficiary at their rates upon surrender, rather than on the trust.
By using given products it is also possible to defer annual reporting while the withdrawals remain within the 5% per annum limit. This can significantly reduce the burden of tax compliance.
6. Monitoring and reporting
An important part of trust governance is for trustees to be able to evidence their decision making process. We encourage all trustees to work with us to produce an investment policy statement which is reviewed annually. This is not a legal requirement but in our view it forms an important record of all the relevant considerations for decision making. It can assist trustees in making controlled, rather than emotion-based, decisions as well as acting as a clear record of the factors which are considered when making decisions.
We report on portfolios at least half-yearly and like to meet with trustees annually. We explain and document investment performance and record the outcome of annual review meetings, including any agreements to make strategic changes to portfolios. |
