A Testamentary Trust is a trust that is established under a valid Will that comes into effect upon the death of the testator or the person creating the Will. It allows the distribution of assets to beneficiaries through the trust structure, rather than directly to them. They are a popular estate planning tool offering several advantages. In this article, we will explore what a Testamentary Trust is, its benefits, drawbacks, and situations where it might be appropriate for you to have one.
What is a Testamentary Trust?
A Testamentary Trust is a type of trust established within a Will, and it only takes effect after the person who has made the will ( the testator) passes away. It allows the appointment of a trustee, who will manage and distribute the assets to the beneficiaries according to the terms outlined in the Will. This means the assets are held in a trust for the beneficiaries' benefit, providing an added layer of control and protection. There can be more than one Testamentary Trust and each Testamentary Trust may appoint separate trustees, allowing the trustee to divide and distribute assets and income generated by the Testamentary Trust between the beneficiaries as they see fit.
What are the advantages of Testamentary Trusts?
1. Asset protection
One of the primary advantages is that it provides enhanced protection for the assets left to beneficiaries. Since the assets are held within the trust, they are shielded from various risks such as creditors, lawsuits, and divorce proceedings.
2. Tax efficiency
They can offer potential tax benefits, particularly for families with minor children. Income distributed to minors is generally taxed at adult rates, potentially reducing the overall tax burden on the estate.
3. Control over distribution
The testator can specify conditions and rules for distributing assets to beneficiaries. This can be particularly useful when the beneficiaries are young, have special needs, or require financial guidance.
4. Continued management
The appointed trustee or trustees can manage the assets professionally, ensuring they are invested and distributed wisely, in line with the testator's wishes.
5. Minimisation of probate delays
Assets within a Testamentary Trust usually bypass the probate process, leading to faster distribution to the beneficiaries.
What are the disadvantages of Testamentary Trusts?
1. Complexity and cost
Setting up a Testamentary Trust involves legal and administrative expenses, which may be higher than a straightforward will. Moreover, the ongoing management of the trust can incur additional costs.
2. Loss of direct ownership
Assets placed in the trust are no longer directly owned by the beneficiaries, which may be seen as a disadvantage if they prefer direct control.
3. Limited access to Capital Gains Tax (CGT) benefits
Testamentary Trusts may not always receive the same CGT benefits as living trusts. The CGT concessions available to other types of trusts may not be fully applicable to Testamentary Trusts.
Who might need a Testamentary Trust?
While Testamentary Trusts offer many benefits, they may not be necessary for everyone. However, certain situations can make them highly advantageous:
i. Families with young children - A Testamentary Trust can provide financial support to minor children while protecting the assets until they reach adulthood or a specified age.
ii. Individuals with vulnerable beneficiaries - If beneficiaries have a disability, lack financial maturity, or face potential creditor risks, a Testamentary Trust can ensure their long-term financial security.
iii. Asset protection - Those who want to protect their assets from potential legal or financial risks for the beneficiaries might consider a Testamentary Trust.
iv. Tax planning - For larger estates, tax efficiency can be a major consideration, making Testamentary Trusts an attractive option. The income of a Testamentary Trust is taxed in the hands of the beneficiaries who receive it and therefore income earned can be split with family members on lower incomes and take advantage of lower marginal tax rates.
A Testamentary Trust is a valuable estate planning tool that offers various benefits, including asset protection, tax efficiency, and control over asset distribution. While they may be more complex and expensive to set up than regular wills, their advantages often outweigh the drawbacks, particularly for families with young children, vulnerable beneficiaries, or significant assets.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
