Testamentary trusts

by Ben Power | 17 Jul 2013

A testamentary trust may help ensure the assets you leave to your children and grandchildren are protected and used in the way you intend. However, it can be complex to set up and even more demanding for the trustee in years to come. So when is one really necessary?

To help secure the financial future of children and grandchildren, many people leave their savings and assets to future generations through their wills. If you are wondering how you can protect those assets though, and even provide direction on how and when they should be used, it may be time to sit down with your solicitor or financial planner and talk about a testamentary trust.

A testamentary only comes into use upon the death of an individual and is set up as part of the person’s will. They are designed to hold assets on behalf of the beneficiaries.

There is no standard testamentary trust, so they are usually customised to the wishes of the individual. In his or her will, a person can outline that a certain portion of their assets is to go into the trust.

After death, the trust will be handled by a trustee whose responsibility it is to distribute the capital and income in the way it is set out in the will.

Is it necessary?

“On the whole, I think testamentary trusts are fantastic, but that’s assuming two critical things," says Paul Banner, financial planner at Provenance Advice. "One, you actually need it, and two, you have a trustee who will be reliable in adjudicating between parties.”

The trustee of a testamentary trust is usually the executor of the estate. He or she needs to be someone you trust to make decisions for you, and a trust can last a lifetime. That can make it quite a big ask, especially if there are warring parties.

“To be honest, if you are loving parents with two loving kids who are functioning siblings, get along fantastically and have normal jobs, I’d be questioning if you need that complexity in your will,” says Banner.

For a lot of people, establishing a trust structure as part of their will may be overkill and, as with anything, there are costs involved.

However, there are certain instances where a trust is a much more financially secure way of handing down assets to family, and can potentially save your beneficiaries from losing your life savings. These range from possible will challenges to beneficiaries with high chances of facing litigation.

“If I was to give you a million dollars and you were sued tomorrow, those assets would obviously be available to those bringing action against you,” says Banner. “Whereas, if they were in a testamentary trust structure, they can’t be touched. That’s just one example where a testamentary trust can be valuable.”

Another instance is divorce. “It is very unusual for the Family Court to include a testamentary trust as part of a couple’s joint assets,” says Terry Purcell, solicitor at Retirelaw.

The same applies in cases of bankruptcy.

“Testamentary trusts are still the best available way to protect inheritance in bankruptcy court,” says Purcell.

Tax treatment

Outside of these protective features, trust assets are treated very similarly to regular assets.

Income from such trusts is treated in the same way as regular income, and will be taxed at the beneficiaries’ regular marginal tax rates. Should an asset in the trust be sold, beneficiaries will also face regular capital gains tax on disposal.

Similarly, trust assets are treated as per usual in Centrelink means testing, apart from one exception: Special Disability Trusts.

“If you set up what is known as a Special Disability Trust for the care and accommodation of a disabled beneficiary, it can have assets of up to $596,500 before it affects the beneficiary’s pension payments,” says Purcell.

Whether or not you end up needing the complexity of a testamentary trust, there is little harm in seeking advice if you are in doubt.

“The biggest mistake I see is people not getting advice,” says Purcell. “A well-structured will has the ability to save your beneficiaries thousands.”

“Sit down with a lawyer who is competent in estate planning and wills,” says Banner. “That’s the first port of call.”