Testamentary Trusts

Advantages of Testamentary Trusts

Control

A testamentary trust can be validly established for up to 80 years, and as such can benefit two or three generations, with the distribution of the trust’s income and assets being completely flexible. Testamentary trusts can be dissolved at any time as well as distributions made to the desired beneficiaries. These Trusts are designed to provide maximum flexibility as they allow for the tax effective distribution of capital and income from the assets and provide a greater degree of asset protection compared to assets held by beneficiaries in their personal capacity.

Asset Protection – Remarriage and de-facto relationships

If a Will is not correctly structured with the incorporation of testamentary trusts, and the deceased’s assets are distributed directly to their spouse, those assets may be at risk is a widowed spouse remarries or enters a de-facto relationship.

In a testamentary trust, if one spouse dies, and the other remarries, assets held in the trust can be protected for the benefit of the nominated beneficiaries – that is, the deceased own children and grandchildren.

Asset Protection – Solvency and third-party claims

Assets held by the trustee of a testamentary trust may be protected from potential third-party claims made against individual beneficiaries. If a beneficiary is experiencing solvency issues, it is possible that the inherited assets may be susceptible to claims made by creditors.

If the estate assets are distributed to and held by the trustee of a testamentary trust, those trust assets may be protected from a third-party’s claim against the individual beneficiary because the assets are held by the trustee for and on behalf of the beneficiaries, rather than the assets being held by the individual beneficiary and therefore being susceptible to third-party claims. The assets are not held by the beneficiary, but rather by the trustee for and on behalf of the beneficiary, with a discretion to distribute to any nominated beneficiary.

Asset Protection – Children and other beneficiaries

A testamentary trust is particularly beneficial for beneficiaries with intellectual disabilities, as well as beneficiaries will illnesses, addiction problems or other concerns which could result in the loss or dissipation of an inheritance.

If a child or other beneficiary is temporarily incapacitated, testamentary trusts will enable the assets to be managed by the family for the benefit of the beneficiary, rather than having a portion of the estate controlled by a government agency.

Under a Will, if a child or other beneficiary is experiencing solvency issues or is bankrupt at the time of the distribution, the beneficiaries may not receive the gift as creditors are able to claim it. Assets held in a testamentary trust are protected from a beneficiary’s creditors and claimants because the beneficiary has no actual entitlement to a distribution until the trustee determines it. This avoids the loss of an inheritance due to the bankruptcy or adverse financial circumstances of a beneficiary.

If a beneficiary is considered to be working within a high risk business or profession where negligence or other claims are a risk, a testamentary trust also protects the inheritance from these types of claims.

Income Tax and Capital Gains Tax

Under an ‘ordinary’ trust, if a beneficiary takes their inheritance in their personal name, they are required to pay tax on the income generated from the inheritance at the top marginal tax rate. This means if a child under the age of 18 receives over $1000, they must pay the associated tax at the top marginal rate. However, under a testamentary trust, children under 18 are taxed as ordinary taxpayers, starting at lower tax rates.

When compared to distributions made either directly, or under family law trusts, this results in considerable reductions in the total tax payable when distributions are made to children or grandchildren – until they reach the age of 18.

Capital gains realised on assets held by a testamentary trust can also be streamed to one or more beneficiaries in a tax effective way. Where one or more of the beneficiaries has a low income in the year of distribution, distribution to this beneficiary allows them to take better advantage of the 5-year averaging rate of capital gains tax losses.In turn, tax payable on capital gains realised assets can be considerably reduced.

Centrelink – Preservation of government benefits

Currently, Centrelink does not take into account the assets held by the trustee of a testamentary trust when calculating the pension eligibility of an individual beneficiary, although the income distributed by the testamentary trust is assessable under the Centrelink income test, as well as being taxable in the hands of the beneficiary.

Superannuation and Insurance payouts

Generally, superannuation proceeds fall outside the assets in a deceased estate and the distribution of the proceeds is determined by the rules of the fund. However, an individual (Will maker) may direct the trustee of the superannuation fund to pay the proceeds of the deceased’s superannuation or death benefits to the executor of the deceased’ estate.

In these circumstances the proceeds will be paid and distributed in accordance with the Will. If the Will includes a testamentary trust, then the proceeds may be directed by the executor to the trustee of a testamentary trust established in the Will, rather than being distributed directly to the nominated beneficiary (ies) and held in the beneficiaries’ personal capacity.

The proceeds will then be distributed to the executor of the deceased’s estate, who will have the discretion to distribute the proceeds and make use of the testamentary trusts established in the Will.

**Note

This article contains general advice only and does not take in account any person’s individual circumstances, needs or financial circumstances. This article is for general information only and must not be relied upon or as a substitute for legal or other specialised advice

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