If you are in the process of making a Will as part of estate planning, you might consider a testamentary trust. They offer additional protection on assets left to beneficiaries and can reduce the tax on income earned from the inheritance.
If you are an Executor or Administrator managing a deceased person’s estate, which is relatively large, you may need to open a post-death testamentary trust. Sometimes a trust account is even requested in the Will.
Depending on your circumstances, the trust can have a range of benefits. This article explains these and other considerations in more detail.
1. What is a testamentary trust account?
A testamentary trust account lets a person or company, known as a trustee (or multiple trustees) hold property or assets for nominated beneficiaries, usually minors. The nominated beneficiaries are generally the Will-maker’s children, grandchildren, and sometimes even a partner.
If you are estate planning and incorporating a testamentary trust into your Will, it won’t come into effect until your passing. However, the Will-maker can either decide which assets are held in the trust, or they may leave the decision to the Executor to determine after they have died.
Where an estate is large, setting up a testamentary trust account can have many benefits, including asset protection and to provide tax advantages for the beneficiaries.
When the Will-maker has died and the trust comes into effect, the assets of the deceased estate can be transferred directly to the trustee of the trust. The trustee (or multiple trustees) is generally the deceased’s partner or adult children, or it may be a trustee company. The trustee then has control of the trust and its assets. They also have the authority to determine which of the nominated beneficiaries receive income and capital distributions each financial year.
How do testamentary trusts work?
If set up properly, testamentary trusts can provide flexibility and control of the deceased person’s estate, among other many benefits.
In the same way that a person or company can hold assets like funds, real estate and shares, testamentary trusts are separate entities for tax purposes. Trusts can also invest and operate businesses. They can continue for up to 80 years, but they are often wound up earlier.
Depending on the deceased person’s financial and family situation, testamentary trusts can allow provisions for beneficiaries who are not part of the immediate family or who are under 18 years old. Assets held in a trust become fully accessible to children once they turn 18 or reach the nominated age as set out in the Will.
What are other benefits of a testamentary trust?
A testamentary trust also allows income generated from the deceased estate assets, like rental income from an investment property, to be distributed to children of the estate beneficiaries (or grandchildren of the deceased person).
There are many other benefits, including some of the following:
- Allowing equal distribution of the deceased estate;
- Providing ownership of all assets, rather than the beneficiaries;
- Protecting held assets if a beneficiary divorces, or in the case of bankruptcy or financial difficulty;
- Protecting held assets if a deceased person’s spouse enters a new relationship later on;
- Allowing provision for beneficiaries who may be bad at managing money; and
- Providing tax advantages for the beneficiaries.
How can testamentary trusts be tax-effective?
The tax benefits of a testamentary trust depend on the beneficiaries’ circumstances. One potential tax advantage is that it allows the trustee to pay certain amounts to various beneficiaries with differing incomes to minimise the tax paid on the total amount.
Income distributed from a testamentary trust to a child under 18 is usually taxed at lower adult rates, rather than higher penalty rates taxed on minors.
What are the costs of a testamentary trust?
A testamentary trust comes with additional costs, so it is only viable if the estate’s value justifies the need. It is not particularly useful for simple estates, unless the Will specifically requires one.
The significant costs to set up and maintain a trust account will be a key consideration if you chose to open one. Unless a trust is a requirement of the Will, you should consult with the beneficiaries to determine if the benefits of setting up a post-death trust outweigh the costs.
Some of these costs include:
- Legal fees ranging from $1,500 to upwards of $10,000 for set-up fees;
- Ongoing bank fees and annual review fees;
- Ongoing accounting and administration fees, and tax advice charges.
How to set up a testamentary trust as per the Will
If a deceased person’s Will requires a post-death testamentary trust to be set up, the below steps outline what needs to happen. Depending on your situation and requirements, there may be additional steps, but below is a general summary of what’s required.
- Review the Will. You’ll need to look for details about the setting up a testamentary trust;
- If no trust is required as per the Will, consult with the beneficiaries to determine if the benefits of setting up a post-death trust outweigh the costs. If you decide not to proceed with a trust, you must agree about how to proceed without one;
- Review the Will for details about which assets to transfer to the trust. Where this is not specifically outlined, a tax specialist or accountant can help. You should also consult with the beneficiaries about this;
- The trust will need an address, so decide what that should be;
- Apply to the Australian Business Register for a Tax File Number (TFN) here;
- Apply to the Australian Business Register for an Australian Business Number (ABN) online here;
- If the trust revenues exceed $75,000 annually, you’ll need to register for GST; and
- Engage with a legal or accounting professional to set up the trust account.
Administration of testamentary trusts
Once the trust is established, it needs to be properly maintained, so the appointed trustee must be aware of their duties.
The ongoing administration of a testamentary trust includes:
- maintaining a record of all assets;
- paying for bank accounts;
- preparing annual financial statements;
- filing income tax returns;
- at least once a year, meeting beneficiaries and any other trustees to review the trust;
- keeping record of all decisions made for the trust; and
- complying with all legislative requirements.
Tax returns can be done by the trustee without hiring an accountant or taxation specialist. However, the common approach is to seek advice every year, or every few years, as tax laws often change.
As mentioned, testamentary trusts come with additional costs, so they are not particularly useful for simple estates, unless the Will specifically requires one.
We hope this article provides a better understanding of what’s involved with a testamentary trust as part of the deceased estate administration process.
Whether you are here because you are making a Will, or you are executing or administering a deceased estate, you should seek professional estate planning advice to help.
This article is not legal advice. You should speak with your solicitor or accountant for specific advice on your personal or financial situation. If you’d like a recommendation on estate planning professionals, give us a call and we’d be happy to connect you with our specialist estate administration partners.
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