October 2010 by Alan Rosendorff, Rosendorff Lawyers www.rosendorff.com.au
Asset Protection in a Testamentary Trust
- No one beneficiary has any claim on the assets of the testamentary trust. A discretionary–testamentary trust, therefore, provides the best means to protect assets which, after death, are to be held for the benefit of the Willmaker’s successors (that is, spouse and children). E.g. creditors of the beneficiary cannot seize the assets of the testamentary trust to satisfy the debt as that beneficiary does not have any claim on or ownership of the assets of the testamentary trust.
- In Family Court proceedings, a testamentary trust may be used as a risk minimisation exercise to defeat a claim of a spouse in the Family Court property proceedings.
- Trust assets are not owned by any beneficiary and therefore cannot be passed by will.
Flexibility of Distributing Income in a Testamentary Trust
- Income or capital of the trust may be distributed between the beneficiaries in the most tax effective manner. The trustee is required to distribute the income in each year between the beneficiaries or to accumulate it (although accumulation may result in more tax being paid on that income). The trustee can elect to distribute that income to any one of the primary or general beneficiaries, none of whom have any enforceable interest to require that a percentage of the income or any fixed sum be paid to them in any year. The trustee has a similar power to distribute capital during the life of the trust.
- Also good estate planning often dictates that a spouse enjoys the income from the estate during his/her lifetime and on the death of the spouse the capital goes to the children. The advantage is that there is no capital gains tax event and the children receive the balance of income and all capital tax free whilst the surviving spouse continues to enjoy the fruits of the estate until his or her death.
Control as to When Trust Comes to an End
- One can introduce trigger events that are not based only on death e.g. “when Joe turns 25”; or “when my wife remarries”; or “when the youngest of my children turn 25” etc.
- In addition, not all of the income and not all of the capital needs to be preserved. E.g. 20% of capital can be left immediately on death to beneficiaries and the balance can be held in a Testamentary Trust . The same applies to income. There are no hard and fast rules and any allocation/division of income and capital is permissible.
The Income Tax Assessment Act Excepted Trust Income
- A testamentary trust has significant taxation benefits in respect of the taxation of minor beneficiaries. Generally, the unearned income of persons under 18 years has a tax-free threshold of $416 (subject to any applicable low income rebates); after that, all income is taxed at the top marginal rate. Section 102AG of 1TAA36 provides that income of a trust estate that results from a will is “excepted trust income”. Where excepted trust income is distributed to minor beneficiaries, it will be taxed in the hands of the minor beneficiaries at the normal adult marginal tax rates.
Growth of Deceased Estate After Death
- The assets of a testamentary trust are not limited to the assets of the estate of the Willmaker. After the Willmaker’s death, the testamentary trust can acquire other assets that create income streams to the testamentary trust. This income may also be excepted trust income and be subject to the same favourable taxation treatment when distributed to minor beneficiaries.
Providing for Both the Willmaker’s Spouse and Children
- A testamentary trust satisfies the Willmaker’s concern that the surviving spouse may make a new will at some future time, possibly reflecting a new relationship that excludes the existing children from the benefit of the assets accumulated by the Willmaker and the surviving spouse during their joint lifetimes.
- A testamentary trust can give the surviving spouse (or any person) a life interest in the estate or a life interest in just the income or just the capital or both. Thereafter the balance of income/capital or both will pass on to the children.
- Under current means tested pension rules, the “asset test” does not apply to Testamentary Trusts.
- Testamentary Trusts can be drafted in such a way to ensure that the identity of the beneficiaries is kept from public scrutiny.
Estate Planning and Superannuation
- Superannuation has always been an issue for estate planning and remains so because the rules have changed. Wills only deal with personal assets, not assets owned by a superannuation fund that the deceased controlled. It is now possible to accumulate substantial wealth in superannuation, and leave it there until a member dies. Where these funds go when a member dies is not legally directed by the terms of a person’s will. Superannuation funds have their own rules for paying out a deceased member’s entitlements.
- Superannuation death benefits can only be paid to the estate of a deceased member when:
- the superannuation fund’s trust deed stipulates that payments on death must go to the estate (which is not a common provision);
- the superannuation fund’s trust deed gives the superannuation fund trustee a discretion; or
- the fund allows members to make binding nominations and a member has nominated his or her estate.