A trust can generally be described as a structure, whereby assets are held by a person(s) or company for the benefit of other individuals or companies. A testamentary trust shares some similarities with a discretionary trust, as the trustee has absolute discretion over who is to benefit (and to what extent) from the distribution of the trust’s income. In order to get a better understanding of the terms commonly used in relation to trusts, some useful definitions are set out below:
Trustee: Person who holds property or assets on behalf of another. This person is appointed to have effective control of the trust, and owes a fiduciary duty (duty to act for the benefit of another and in good faith) to the beneficiary. The powers of a trust are normally limited by the trust deed, or if there is no deed, would be governed by the state Trustee Acts.
Beneficiary: A person for whom a trustee holds an asset.
Beneficial interest: The interest held by a beneficial owner (usually distinct from the legal owner).
Executor: The person or people nominated by a will maker to carry out the terms of a will.
A testamentary trust is established in a will, and it only comes into effect upon the death of the will-maker. It is the estate (assets) of the deceased will-maker that funds the Testamentary Trust. The most common testamentary trust is that of the “beneficiary-controlled” testamentary trust. Under a “beneficiary-controlled” testamentary trust, upon death and the granting of a probate or letters of administration (see Comasters article titled “Probate and Letters of Administration”), the assets of the deceased will-maker will pass from the executor of the will to the trustee of the beneficiary-controlled testamentary trust. This differs from simple or traditional wills, where assets pass from the executor to the beneficiary directly. The trustee would therefore hold the assets in trust for the benefit of the specified beneficiary and other discretionary beneficiaries.
A testamentary trust (as with other discretionary trusts) is normally created through a trust deed. For a beneficiary-controlled testamentary trust to operate, it is the will that forms the deed for the beneficiary-controlled testamentary trust. Clauses to be inserted into the trust should therefore include:
Questions for consideration when deciding whether to implement testamentary trusts in your will should cover the following:
As mentioned above, a will-maker has the option of allowing the executor of the will to exercise their discretion as to whether a testamentary trust is to be established. The discretion of the executor to not implement a trust should be exercised with the consent of the primary beneficiaries and is to be made at the time of administrating the estate but prior to its distribution.
Laws regarding taxation, bankruptcy and trusts are constantly changing. The benefits of using a testamentary trust at a certain point in time may not necessarily be the same at a future point in time. Thus, it is a prudent measure to ensure that there is the option of not setting up a testamentary trust if not required. To avoid ambiguity, it would be best that this discretionary power to not set up the trust be clearly stated in the will.
Every year the trust will need to pay administrative costs (for the maintenance of the trust), as well as incur accountant’s fees owing to the requirement of trust taxation returns.
The major advantage of using at testamentary trust is increased asset protection – in essence, this means that since your beneficiaries would not be inheriting the assets of the will-maker personally, greater protection would be afforded to beneficiaries who are facing bankruptcy, a relationship breakdown or if beneficiaries are intellectually impaired.
If a testamentary trust was not set up in a will prior to death, a post-death trust, similar to that of a testamentary trust could be established. The difference in setting up a ‘post-death’ trust is that assets of the post-death trust can only be limited to certain beneficiaries as defined under intestacy law (law that governs the distribution of a deceased estate in situations where there is no will). Setting up a ‘post-death’ trust would therefore not be as effective in terms of flexibility and financial planning.
Comasters can draft Wills for clients, including Wills incorporating Testamentary Trusts.
© Comasters December 2009.
Important: This is not advice. Clients should not act solely on the basis of the material contained in this paper. Our formal advice should be sought before acting on any aspect of the above information.