Estate planning health check – should my Will include a testamentary trust?

What is a testamentary trust? What are the advantages of a testamentary trust? Should I include a testamentary trust in my Will?

These are some of the common questions we get asked when preparing a Will and estate plan.

What are the main benefits of testamentary trusts?

The main benefits of properly structured testamentary trusts are:

• protection of the assets in the trust from the risk of the beneficiaries
• being able to distribute income to children who are under 18 (or for their benefit) at normal adult tax rates.

It is possible to include provisions in the testamentary trust to ensure that only your blood descendants can ever receive capital entitlements in the trust.

Asset protection

A testamentary trust can provide asset protection for your beneficiaries, which will be important if they are engaged in an occupation that carries significant risk of litigation or own a business.

Couples generally acquire assets in the name of the spouse who has the lower risk profile. However, if that person dies and leaves all their assets to the spouse with the higher risk profile, the family’s assets may be exposed.

If, instead, the assets are held in a testamentary trust, your surviving spouse can control the assets and ensure that any income and capital from the estate is used for the benefit of your children and family members. Your spouse will not have direct ownership, which means that the assets themselves should be protected to some extent.

The same issues arise if adult children have high risk profiles.

Testamentary trusts can also provide some protection for adult children in a matrimonial property settlement – provided they do not have sole control of the trust.

Income splitting

Income received by beneficiaries who are under 18 from a family trust will be subject to maximum tax rates if that income exceeds $416.

Under a testamentary trust, all beneficiaries, including those under 18, receive the benefit of the full income tax free threshold, and income above that amount is taxed at normal adult rates. This means that approximately $20,000 can be distributed to each beneficiary free of tax each year.

This can be of significant benefit to beneficiaries who have children under 18 as they can effectively pay things like living and educational expenses for their children out of pre-tax income.

It is also becoming more and more common for grandparents to help with grandchildren’s school fees, which can be very tax effective if paid from a testamentary trust.

Is a testamentary trust for you?

A testamentary trust might be useful where:

• you have young children or grandchildren
• your beneficiaries (your spouse or adult children) have potential risk issues (for example they have a business or are professionals)
• your intention is to protect assets for your children but still provide for your surviving spouse
• you have a child with special needs or one who would not be responsible controlling their inheritance
• you want to ensure that your assets pass down your family line
• you would like to protect your assets from claims by spouses or partners if any of your children are involved in a matrimonial property dispute
• you have more than $1.6 million in superannuation (because the recent changes to superannuation law mean that the excess will leave the super fund after your death).

Testamentary trusts can provide great benefits and flexibility in your estate plan. However, they are not a ‘one size fits all’, so it is important that you seek advice about whether a testamentary trust is suitable and appropriate for your estate plan.

To discuss your Will and other estate planning documents, please contact a member of our estate planning team.