How Loan Trusts Work: A Practical Guide to Inheritance Tax Planning With Access to Capital
Retaining Access While Planning for IHT
Last week, we set out our structured approach to inheritance tax (IHT) planning:
Understand your current position and any potential IHT liability
Set assumptions for your future spending needs, including any care costs
Use cashflow modelling to forecast your future financial position
Identify any surplus that could be used to reduce or provide for your potential IHT bill
Note: The Financial Conduct Authority does not regulate Estate and Inheritance Tax Planning. Inheritance Tax thresholds depend on your individual circumstances and may change in the future.
We also introduced the four core planning options available:
Direct gifts
Transfers into trust
Business Relief-qualifying investments
Whole of life insurance
But within each of these categories lies a range of nuanced tools. This week, we’re looking at one particularly versatile option within the trust space: the Loan Trust.
This structure can work well for those who want to start addressing their estate planning, but aren’t ready to part with access to their capital altogether. It’s especially useful for clients with larger sums to invest and long-term horizons – for example, following a business sale, inheritance, or major downsizing.
Here’s how they work.
What is a Loan Trust?
A Loan Trust allows you to make a loan to a trust, rather than a gift. This means:
You retain access to the loaned amount (it can be called back at any time)
Any growth on the invested funds accrues outside your estate, for the benefit of your chosen beneficiaries
It’s a way to freeze the value of part of your estate – locking in the IHT liability at today’s level – while allowing future investment returns to fall outside of your taxable estate.
How Does it Work?
The structure is relatively straightforward:
Establish a trust – usually a discretionary trust, which provides maximum flexibility. This means you (and any co-trustees) can decide who benefits, when, and how much. Typical beneficiaries include your children, grandchildren, or any future generations.
Lend money to the trust – rather than gifting assets outright. Since this is a loan and not a gift, there's no immediate transfer of value for IHT purposes. That means no Chargeable Lifetime Transfer (CLT) – and no 20% entry charge, regardless of the amount.
Trustees invest the loan – guided by your instructions. As the settlor, you’ll usually act as one of the trustees, giving you control over the investment decisions and distributions.
Access remains – the loan is repayable on demand, either in full or partially. This makes it ideal for funds you don’t expect to need, but might want to access later for contingencies like long-term care or helping family.
Meanwhile, any investment growth accrues outside of your estate, for the benefit of the trust beneficiaries. That’s where the IHT saving arises – not on the original loan, but on the growth generated over time.
Additional IHT planning via loan write-off
As a side note, while the loan remains repayable, you also have the option to gradually write off part or all of it over time. Each write-off is treated as a Chargeable Lifetime Transfer (CLT) at that point – and so becomes subject to the seven-year rule (i.e. remains liable to IHT for 7 years from the date of transfer, then fully exempt).
However, provided the amount written off in any seven-year period stays within your available nil-rate band (currently £325,000), there’s no immediate IHT charge. Over time, this approach can generate significant extra IHT savings, especially for larger estates looking to progressively shift wealth out of the estate without triggering a tax bill upfront.
Why Use a Loan Trust?
A Loan Trust may be a suitable option if:
You’re keen to start estate planning, but not ready to give away wealth outright
You want access to the outstanding loan, just in case, but expect not to need it
You have a long-term timeframe, ideally 10 years or more
You want to retain control over the investment and distribution of funds
In essence, it’s ideal for ‘just in case’ capital – money you probably won’t need, but can’t quite afford to lose access to.
Important Considerations
As with any planning strategy, Loan Trusts come with some key considerations and potential pitfalls:
The loan is fixed in nominal terms: The loan doesn’t rise with inflation, so its real value will erode over time. For instance, £500,000 set aside today could be worth closer to £170,000 in real terms in 30 years (assuming 3.5% inflation) – still useful, but perhaps only covering a few years of premium care.
No IHT saving on the loan itself: The original loan remains part of your estate for IHT purposes. Only the growth on the investment sits outside your estate.
Investment risk still applies: The trust’s assets will be subject to market fluctuations. There is no guarantee that the investment will grow, and if markets perform poorly, the IHT benefit could be limited.
Additional costs and administration: Establishing the trust will involve legal fees, potential professional trustee costs, and ongoing administration. The setup should be carefully handled to ensure all documentation is compliant and robust.
Trust taxation and charges: Discretionary trusts are subject to periodic (10-year) and exit charges. Periodic charges are typically up to 6% of the value above the available nil-rate band, excluding the outstanding loan. While this could result in a notable charge on larger trusts, it's still significantly lower than the 40% IHT rate on death.
A Worked Example
Michael and Ana, both aged 50, recently sold their business and received £1.5 million net of tax. After reviewing their retirement needs, they decide to retain £750,000 for themselves and set aside the other £750,000 for long-term family planning.
Their objectives are threefold:
Asset protection for their children (e.g. from divorce or financial claims)
Flexible access in case markets fall early in retirement (sequencing risk)
Provision for potential care costs later in life
They establish a discretionary Loan Trust, naming their children, future grandchildren, and other descendants as beneficiaries. Michael and Ana act as trustees and make a £750,000 loan to the trust, with the assumption the funds will remain invested for 10–15+ years. The growth will eventually help with school fees and house deposits—but the outstanding loan provides peace of mind that capital can be reclaimed if needed.
Potential IHT Savings
Assuming a consistent 5% annual growth rate:
Year 5:
The trust is worth ~£960,000. The £210,000 growth sits outside their estate, saving £84,000 in IHT.Year 10:
The trust reaches ~£1.22 million. Growth of £470,000 equates to a potential £188,000 IHT saving.Year 20:
The trust grows to ~£2 million. At this point, Michael and Ana decide to write off £350,000 of the loan—this is a Chargeable Lifetime Transfer, and assuming survival for 7 years, removes a further £140,000 from their potential IHT bill. Combined with growth (£1.25m), the total potential saving is £640,000.
With the effects of compounding and a partial loan write-off, the total IHT saving after 30 years (in today's money) could be £1.14 million - see chart below:
Note: This projection assumes 5% annual growth. When investing, your capital is at risk. The value of your investment (and any income from them) can go down as well as up, and you may get back less than you invested. Neither simulated nor actual past performance is a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
Summary
Loan Trusts offer a flexible, tax-efficient solution for those looking to reduce inheritance tax without giving up access to their capital. By lending money to a discretionary trust, you retain control and liquidity, while any investment growth accumulates outside your estate—potentially delivering substantial IHT savings over time.
They are particularly well-suited to individuals with long-term horizons and surplus capital—often following events like a business sale or inheritance—who want to take action now without locking the door completely.
While the structure comes with some complexities, such as trust charges, investment risk, and inflation erosion, a well-implemented Loan Trust can serve as a powerful tool in broader estate planning, especially when combined with strategic loan write-offs over time.
As always, professional advice is essential to ensure the trust is set up correctly and aligned with your overall financial plan.
Happy Thursday!
Kind regards,
George
George Taylor, CFA
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This blog is for general information only and is intended for retail clients. It does not constitute financial or tax advice, nor is it an offer to buy or sell any specific investment. Since I don’t know your personal financial situation, you should not rely on this content as tailored advice. While we aim to provide accurate and up-to-date information, we cannot guarantee that all details remain correct over time. We are not responsible for any losses resulting from actions taken based on this blog’s content.
