Testamentary Trusts are set up in a person’s Will for many reasons. What exactly is a Testamentary Trust and do you need one?
What is a Testamentary Trust?
It is a Trust established under a Will but it does not come into effect until after the death of the person making the Will.
A Trust provides a structure for a person (or persons), that is a Trustee, to manage your assets for the benefit of others (the beneficiary or beneficiaries).
The type of Trust and its format can be tailored to suit your specific needs and circumstances.
Why might I need a Testamentary Trust?
Testamentary Trusts are set up for various reasons including tax savings, and the vulnerability of a beneficiary (e.g. their young age, a beneficiary with an addiction or disability), or as a protective device for a beneficiary against possible marital or financial problems.
When it is set up for tax reasons, it is usual to appoint the principal beneficiary, as Trustee , so that the beneficiary can then determine how income and capital of the trust is distributed. It can also include the beneficiary’s future spouse and children.
Sometimes a testator (i.e. the will maker), decides that capital (the assets of the trust, and income pertaining to those assets), can only be distributed to lineal descendants (direct descendants).
Others are happy for capital to be preserved for lineal descendants, but the income can be paid not only to those lineal descendants, but also to their spouses. So then the income can be distributed among a wider group of beneficiaries in the most tax effective way, depending on the circumstances of the beneficiaries when the distributions are made each year.
A Trust can also be used to exclude spouses as potential beneficiaries to protect against the event of a relationship breakdown, and ensure the assets are distributed to strictly lineal descendants.
What are the benefits?
The main advantages of a Will with a formal Testamentary Trust are:
- The flexibility to allocate capital and income looking at the facts of each beneficiary’s circumstances at the time, rather than based on the will maker’s prediction of the future.
- If a beneficiary suffered a marriage breakdown, the Trust is a facility to aid in keeping their inheritance separate. For this reason, We recommend that a co–trustee be appointed to assist in the management the Trust. This is an onerous role, however, so the co-trustee will have to be a trusted family member, an Accountant, the Public Trustee, a Solicitor or someone in a similarly appropriate role.
- Control of the Trust is important so far as the Family Court is involved, and if a beneficiary has sole control and was making substantial distributions of capital or income to themself, the Family Court, in the event of the breakdown of a marriage, would consider the Trust assets as matrimonial property and subject to distributions when assessing a property settlement.
- Depending on the income coming into the Trust each year (rental or investment income), beneficiaries who are minors, could receive up tax advantages. However the specific advantage (if any) differs from situation to situation, requiring professional advice.
- They are also a protective device against creditors as the assets would belong to the Trust and not to the beneficiaries.
Considerations
- Because of the complexity of the Will document, the cost to prepare the Will is substantially more than that of a more basic Will.
- If any distributions are not applied to a minor beneficiary after a distribution to them has been determined, there will be an accumulating debt owing to them, which may erode the capital of the fund, when they reach maturity and ask for the money
- Since the Trust requires a reasonable degree of control as mentioned above, similar to a normal family discretionary trust, recourse will have to be had each year to competent accountants ( and possibly lawyers) for trust administration advice. This all involves cost.
- The beneficiary will have to be able to work with their co-trustee. Finding a suitable co-trustee for you to nominate in your Will now, could be a difficult exercise. You have to decide whether you would also want your alternate Executor to be a co-trustee of the testamentary trust as a long-term project. If a professional co-trustee (e.g. accountant, solicitor or The Public Trustee) is appointed, this will also result in increased expenses.
What next?
You should speak to a qualified Wills and Estate professional who can provide advice on setting up a Testamentary Trust in your Will.
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