“Testamentary” is a legal term that means the issue relates to the making of a will. A “trust” is where one person holds the legal title of property for the benefit of another person (not themselves). A “trustee” is the person who take the ownership in “trust” for another person (known as the “beneficiary”). Under the trust the trustee owes a legal financial duty to the beneficiary.
A testamentary trust is established under a will to appoint a trustee to use property for the benefit of the beneficiary in the way that the will specifies. Many people, especially those of wealth, create trusts to protect assets or to minimise tax. In the same way a trust can be set up under a will. These trusts can last for many decades following the date of death.
Why a trust?
A trust is a legal device that separates the ownership and control of an asset, which beggars the question, why is this useful in the first place?
Rather than an asset passing into the personal name of a beneficiary (as it does in a traditional will), under a testamentary trust the asset passes to a trustee who holds it in trust for the beneficiary. The trustee then decides how (or if) the beneficiary will receive income and capital from the trust. From an estate planning perspective, testamentary trusts offer almost endless flexibility for accountants and financial planners.
What it can achieve
Let’s take the example of a couple with a child who has an intellectual disability. They naturally worry what will happen to the child after their death. One of the ways to deal with the child’s financial security is to set up a testamentary trust. In this way the testator (the person making the will) can direct how the assets will be used after their death.
Another example might be where a parent is concerned about the marital situation of a child, and wants to ensure that only their child and not the child’s spouse inherits their wealth, or that the inheritance does not become subject to a claim under the Family Law Act.
The advantages include:
- maintaining social security entitlements;
- ensuring that assets pass to children even if a surviving spouse remarries or the child divorces;
- capital gains tax and income tax advantages;
- providing for children with an intellectual disability or mental illness; and
- protecting assets where a beneficiary becomes bankrupt.
Discretion of trustees
Under the trust the trustee can either be given specific instructions on how the money will be spent, or they can be given a discretion.
Often it is better to allow for a discretion because:
- it is the most flexible type of the trust;
- it may provide the best chance of the beneficiaries’ actual future needs being met;
- it may best allow for the best interests of the beneficiary to be met.
Choosing a trustee
This is a significant decision and should not be made without serious thought. The person you choose will have a lot of responsibility, and should have some financial management skills (or access to those skills).
You can choose:
- an individual.
- Private trustee companies
- Private trustee companies are regulated by law.
The advantages of using these companies are:
- they are professional;
- they are independent;
- they are companies and therefore, unlike an individual trustee, can continue to act as trustee into the future.
The disadvantages are:
- the trustee will not have a personal relationship with the beneficiary;
- the company will charge.
It is possible to appoint an individual as a co-trustee with the company.
The main advantages of an individual trustee are:
- you can appoint someone with a personal relationship with the beneficiary (in a discretionary testamentary trust it can be the beneficiary);
- it may be cheaper.
The main disadvantages are:
- the individual may not have sufficient expertise;
- there can be a conflict of interest