Testamentary Trusts: Under-utilised and highly effective
Testamentary trusts are one of the more under-utilised branches of estate planning and, at first glance, appear to be very complex and only appropriate for niche situations. In truth, testamentary trusts are far less daunting than they first appear and offer a multitude of benefits for your beneficiaries, while also allowing you more control over your estate than a run of the mill will would allow.
What is a Testamentary Trust?
A testamentary trust is a trust set up by a will that comes into effect when the will-maker passes on. A testamentary trust works by separating control of the assets held in the trust from the beneficiaries and appointing a trustee to manage the assets for the beneficiaries. A testamentary trust cannot function without beneficiaries and at least one trustee. Appointors are not required but can provide extra security as they can restrain the trustee(s).
The appointor is a completely optional role, you do not need to have an appointor for a testamentary trust to function. They have the power to appoint and remove trustees from the position. The appointor must give their consent if the trustee(s) want to exercise certain powers, such as adding beneficiaries, distributing the trust capital, or varying the terms of the trust.
The trustee(s) have control of the trust assets and are responsible for the day-to-day administration of the trust. They have total discretion in how they manage the trust, but they must manage the trust on behalf of the beneficiaries, in the beneficiaries’ best interests.
Beneficiaries are the people you nominate to benefit from the trust. They do not own the trust assets and do not have the right to call for any of the unallocated income or capital of the trust. Their only right is to be considered by the trustee(s) for the distribution of the trust income or capital.
The tax benefits of having a testamentary trust.
The income earned each year from investing the trust assets always needs to be distributed by the trustee to the beneficiaries and each beneficiary gets taxed on the income they received from the trust at their own marginal tax rate.
Each year the trustee can choose which of the beneficiaries should receive the income earned from investing the inheritance each year, which allows them to give income to beneficiaries who have lower tax rates. A unique feature of testamentary trusts is that beneficiaries under the age of 18 are, for tax purposes, treated like they are adults. This means that they can receive up to approximately $22,000 in tax free income each year from the trust.
Benefits for families with young children
With a testamentary trust in place, if you pass away and your spouse re-partners after you pass away, the inheritance you left your family will be held for your children and protected from the influence of any new partner and any other future family law risks.
If the worst comes to pass both you and your spouse pass and leave children behind, a testamentary trust will allow you to choose a trustee to make financial decisions about the children’s inheritance until they reach financial maturity.
Benefits for families with adult children
If you have adult children, you should consider leaving an inheritance to them through a testamentary trust, rather than as a direct gift. By leaving your child their inheritance through a testamentary trust, you significantly reduce the risk that their inheritance will be exposed to any family law risks if your child separates or divorces from their partner.
Testamentary trust assets can’t be claimed by creditors in bankruptcy proceedings or by other parties if your beneficiary is engaged in litigation. This is particularly useful when your child works in a high risk occupation, for example, lawyers, engineers, health professionals and accountants.
If you leave an inheritance to an adult child who has minor children, then the parent could use the tax free income earned from investing the inheritance through the trust to pay for their children’s education.
When is a testamentary trust right for you?
If you are leaving at least $500,000 (including superannuation and life insurance) to one or more person.
You want to leave an inheritance to minors who will receive approximately $22,000 tax free income each year from investing the inheritance.
It is important to you that the inheritance is protected from relationship risks.
It is important to you that the inheritance is protected from bankruptcy risks.
You are leaving assets to a beneficiary who cannot be trusted to manage their inheritance appropriately and you are worried they will waste it.
An intended beneficiary is currently residing overseas.
This article is general in nature and is not legal advice. If you need help with setting up a testamentary trust or planning your estate, Voice Lawyers is here for you.
Speak to us at Voice Lawyers for advice on estate planning matters. Please contact us on 02 9261 1954, email us at voice@voicelawyers.com or use our link to book a consultation.