TIPS ON TESTAMENTARY TRUSTS
Circumstances may exist whereby the establishment of a testamentary trust within the terms of a Will may certainly be advantageous.
WHAT IS A TESTAMENTARY TRUST?
Before we go further, let us clearly explain what the term “testamentary trust” entails:
A “testamentary trust” is generally regarded as a discretionary family trust which is established within the framework of a Will. The term “discretionary trust” is used to describe aspects of certain express trusts but cannot be defined with a particularly fixed meaning. It can be used as an overall description of the trusts for which a settlement document provides.
Of course a distinction must be made between a testamentary trust and a settlement inter vivos. A testamentary trust is operative from the date of death of the deceased or the time when it comes into effect as per the terms of the Will whereas a settlement inter vivos is made during ones lifetime and is operative from the date referred to as commencement date in the document creating that trust.
WHEN IS IT APPROPRIATE TO ESTABLISH A TESTAMENTARY TRUST?
The following case scenarios may illustrate the occasions on which it may be appropriate to make a Will incorporating a testamentary trust.
CASE A:Ben is concerned that Mary, one of his daughters, is getting into financial difficulties continually in the running of her business and he wants to make sure that his hard earned savings accumulated during his lifetime are distributed among his children. However in Mary’s case he is extremely perturbed by the risk that if he gives Mary directly the benefit of a share in his estate under his Will and then if Mary goes bankrupt, ultimately the inheritance Mary may acquire will go to the registrar in bankruptcy. Ben can arrange for a testamentary trust to be incorporated in his Will to protect Mary’s inheritance from Mary’s creditors.
CASE B:Harold’s son Jim is 46 years old but is addicted to gambling and whatever monies he gets goes on the pokies. He has lost a fortune so far in his life. Harold wants Jim to receive some benefits from his estate but does not want Jim to be in control. A testamentary trust will assist in keeping the bulk of the funds out of the reach of Jim and yet have some of the funds made available to him for his maintenance and benefit. Often in such circumstances, a testamentary trust may provide for income only to be distributed. The trust may make the distribution of capital discretionary and the terms can be varied to suit particular circumstances.
CASE C:Jane’s son John has some serious problems with his marriage and John and his wife Mary are teetering on the edge of divorce. Jane wants to take some precautions as to the benefits she wants John to have from her estate. A testamentary trust may be a way of avoiding an inheritance being included in a property settlement, although it is possible that even the expectation of an inheritance may be regarded as a financial resource to be considered in a property settlement proceeding. Of course it is unlikely that an inheritance received by John right at the end of his marriage (that is if the divorce proceedings are already under way) is unlikely to be included in the property settlement arrangements.
CASE D:Sections 102AC and 102AG of the Income Tax Assessment Act 1936 have the affect of providing that children under 18 years who receive income from a testamentary trust are taxed on that income as adults. Thus the same tax free threshold and marginal rates apply as are applicable to adults.
Without this trust situation, such minors would have a tax free threshold of only around $416.00 (or in some circumstances $643.00) and then the highest marginal rate of tax would apply.
Thus if a testamentary trust in suitable terms, is incorporated in a Will, income may be received for the benefit of a minor up to around $6,000.00 or the current threshold for an adult without incurring tax liability.
WHAT ARE THE MAIN CONCERNS WITH TESTAMENTARY TRUSTS?
1.CONTESTING OF A WILL:
If an eligible person wishes to contest a Will containing a testamentary trust then he or she may do so. The fact that there may be a testamentary trust incorporated in the Will, does not of itself give protection against such claim being made for further provision from an estate.
2.CAPITAL GAINS TAX
Gains or losses (in respect of CGT) made on the transfer of assets from a personal representative to the testamentary trust are ignored for tax purposes, provided that the members of the testamentary trust are individuals and not companies or other trusts. If the members are companies or other trusts, then the usual exemption may not apply.
3.DISTRIBUTIONS FROM A TESTAMENTARY TRUST
If a distribution is made from a testamentary trust of an asset owned by the deceased person who made the Will incorporating the trust, then the distribution is treated in the same way as a distribution by the personal representative to a beneficiary provided that the beneficiary is a relative of the deceased. If the beneficiary is not a relative, then the transfer from the testamentary trust must occur within 2 years of the death of the deceased or within such further period as the Commissioner of Taxation may allow, if CGT is to be avoided.
There are definite advantages in the establishment of testamentary trusts in circumstances such as those outlined. Whether problems such as those illustrated can be surmounted in the future to the same degree as under the current legislation really depends on what changes may be made to the law in the future. We can only give you tips about the present situation – tips which quite a few have successfully taken on board by establishing a testamentary trust with most effective advantages to the beneficiaries deriving benefit from their estate.