A guide to trusts, prenups and wealth protection upon divorce

Many avenues are available to help protect your financial interests in the event of a future divorce or the dissolution of a civil partnership.

Here, our family law expert Amanda Long demystifies the main options — including pre-nuptial agreements — and explains how trusts are dealt with following separation.

What is a trust?

In simple terms, a trust is a legal mechanism for managing assets or money.

The settlor (the person responsible for putting their assets into the trust) creates a trust for the benefit of third-party beneficiaries — most commonly, for family or friends. The asset or money is transferred by the settlor to designated trustees to ‘hold on trust’ (manage) for the beneficiaries. The trustees will hold the assets until a stipulated date (for example, until the death of the settlor or when a child turns 18), at which point the beneficiaries may have access.

You may already be using a trust without realising — for instance, if you own property in joint names with your partner or have a life insurance policy written in trust.

Are trusts protected from divorce?

It is a common misconception that interests held in trusts can automatically be excluded from the court’s jurisdiction when tasked with the distribution of assets upon divorce or the dissolution of a civil partnership. The way that a trust is treated during divorce/dissolution proceedings differs depending on its type.

The court has the unfettered power to ‘invade’ or ‘vary’ a trust under s.24(1)(c) of the Matrimonial Causes Act 1973 if it is found to have a ‘nuptial element’ (i.e., where there is a connection between the trust and the marriage). Since there is no strict definition of what is meant by a ‘nuptial element’, this is dealt with on a case-specific basis. Trusts set up in preparation for a marriage or civil partnership or to hold the family home are most likely to fall within the ‘nuptial’ category.

To determine whether a trust should be protected from divorce/dissolution, each person’s expectations of what they would have received from the trust if their marriage or civil partnership had continued will be assessed. Relevant considerations include when a trust was set up, the identities of the settlor/beneficiaries and the expressed intentions of the trust.

The court’s powers in relation to nuptial trusts are wide-ranging, including the ability to change or appoint trustees, change beneficiaries or transfer money or assets out of the trust (even to non-beneficiaries). The court will only utilise this powerful tool to achieve a fair outcome in a divorce and meet the needs of the couple.

How are trusts handled in a divorce?

If you have a beneficial interest in a trust, although technically you are not the owner of the trust assets, your interest must still be disclosed during a divorce or dissolution. While there is no black-and-white method to determine when an interest in a trust will be taken into account on divorce, the following questions will be considered:

• Is the trust a financial resource?
• Is the trust a ‘sham’?
• Is the trust a ‘nuptial trust’?

Upon divorce or dissolution the court can consider all ‘financial resources’ available to a couple to achieve the fairest outcome. This means that in reality, courts often look past the complex structure of trusts to examine the reality of what assets are available to the couple.

In the case of a fixed trust, it is usually straightforward to value a person’s beneficial interest, as this is clearly defined. The court will consider the extent of the beneficial interest, as well as when the funds will be accessible. For example, if a person has been receiving regular income from the trust, it is highly likely that the court will take this into account as part of a divorce or dissolution settlement. If there is no indication when the trust assets will become available, the court is more likely to disregard it.

If a spouse or civil partner falls within a class of beneficiaries in a discretionary trust, the court is only likely to treat their interest as a financial resource in divorce or dissolution proceedings if they are likely to receive the benefit immediately or in the near future.

The court can decide whether (and how) a discretionary trust should be considered as part of a divorce/dissolution settlement. This can include encouraging the trustees to make payments out of the trust, or ordering one person to offset the value that they may receive from the trust by giving the other person a larger share of other assets.

‘Sham’ trusts

A ‘sham’ trust is considered by the court to be an attempt by the person(s) entering into it to pretend that an arrangement is a trust. This type of arrangement may be set up specifically to deny their spouse or civil partner certain assets in the event of divorce or dissolution.

If the court finds a trust to be a ‘sham’, it will be disregarded and the assets inside the ‘trust’ will be available for distribution within divorce or dissolution proceedings. However, recent case law suggests that the burden on a spouse or civil partner that seeks to argue that a trust is a ‘sham’ may be onerous.

Challenging a trust

If a spouse or civil partner wishes to make a claim over a family trust, they may do so by challenging its validity or seeking to vary the terms of the trust if it is found to have a nuptial element.

If a trust is found to be invalid (for example on the basis of its structure), the assets will revert to the settlor’s personal ownership in the same way as a ‘sham’ trust and will be available for distribution on divorce or dissolution.  

Alternatively, a trust settlement that is non-nuptial at the time of its creation could later take on a nuptial character, particularly if there is a flow of benefit to the spouse or civil partner during the marriage. By way of example, if the family home was purchased or owned by one spouse or civil partner’s family trust, the other spouse or civil partner may be able to establish that the trust is a nuptial trust, which would make it capable of being varied by the court.

Is it worth getting a pre-nuptial agreement?

To protect beneficial interest held within a trust, it may be advisable for a couple to enter into a pre-nuptial agreement. A prenup can be used as a tool or ‘insurance policy’ to safeguard a trust in the event of any dispute within potential future divorce or dissolution proceedings.

Each future spouse or civil partner must freely enter into the prenup without any undue pressure to sign the agreement and it is recommended that independent legal advice on the terms and consequential effect of the agreement is taken.

A further consideration is the timing of the agreement. It is recommended that there should be a reasonable period of time between the future spouses or civil partners entering into the agreement and the marriage or civil partnership taking place. If you consider that a pre-nuptial agreement is required, the sooner you can speak to a specialist family lawyer, the better.

Is a prenuptial agreement legally enforceable?

While pre-nuptial agreements are not legally binding under the law of England and Wales, they can be highly persuasive to a court upon divorce or the dissolution of a civil partnership. If you have an asset to protect — such as a trust or an interest in a trust — you may wish to consider a prenup.

Our family law team specialises in trusts, pre-nuptial agreements and wealth protection.