Estate planning can be a challenging area of law to specialise in, largely in part because so many lawyers claim to practice estate planning, even though their idea of specialising in estate planning is pumping out a will in between settling a property conveyance and representing a client on a DUI charge. I don’t say this to disparage other lawyers who are generalists (in fact, I think my family would much prefer it if I had experience in a wide variety of areas, as I think I would be much more useful to them!).
However, I make this point because there can often be a big difference of opinion between lawyers about how to craft an appropriate estate plan.
One example is the decision of whether or not to utilise a testamentary trust in a client’s will (often abbreviated to TT. A testamentary trust is really just a fancy term for a trust established in a will rather than during a person’s lifetime).
I met with a financial planner recently who mentioned that the local lawyer who they use to assist with estate planning rarely recommends TTs for clients unless there is significant complexity, and often waives away any suggestion of a TT from the financial planner by saying that they are too complicated for general clients.
I actually have the opposite view and believe that a TT can be a game changing tool in estate planning for about 95% of the clients I see.
I can appreciate however that it can be very confusing for clients and advisers when faced with conflicting advice from different lawyers about whether or not to use the TT, and I can certainly understand why a lot of clients opt for the more simpler approach of not using a TT.
While I am a big supporter of the Keep It Simple Stupid (KISS) philosophy, the decision not to use a TT is often made without having a full appreciation of the tax and asset protection advantages that a TT can afford. Most clients also do not realise that it is incredibly difficult to reverse engineer the benefits of a TT if one was not set up in the will initially. At View Legal we have a detailed flyer comparing the use of a post-death TT against a TT established in a will (available here), and the post-death TT simply does not stack up against the properly crafted TT in a will. So while it can be slightly simpler in the upfront estate planning exercise not to use a TT, it can be tremendously more complex and expensive to attempt to reverse engineer a TT outcome if one wasn’t used included in the will. When comparing this outcome to the fact that a TT that is not ultimately required can be easily wound up, it seems like a no brainer to me to include a TT in the will for most clients.
As a quick recap (and for more detailed information, View Legal has a flyer and video explaining TTs in their estate planning toolkit here) the primary reason most clients choose to use a TT is asset protection. This is both in a bankruptcy context to protect an inheritance from a beneficiary’s creditors, and also to allow protection of wealth on relationship breakdowns. Given the divorce rate is so high these days, it seems to be nearly always a concern in the back of clients’ minds to ensure that their lineal descendants retain their inheritance. There is always the option of winding up a TT that is redundant once it is setup, but if the TT is not utilised and a beneficiary receives an inheritance outright in their name, the exposure to a family law property dispute can be disastrous. For many clients, understanding the family law protection is enough to justify using a TT in their will.
The other advantage is the taxation benefits and the fact that for clients with minor children in the family (whether they are children, grandchildren or great-grandchildren), they will be able to distribute significant amounts of income generated from investing the inheritance tax free to those minors (approximately $20,000 per annum per minor). This is an environment that can only be accessed with a TT because the government recognises that someone has died for this trust to come into existence. There is a more detailed post on the View Legal blog about exactly how those tax concessions work here.
I have seen many clients who may have ‘vanilla’ affairs, such as young couple with minor children, receive advice not to use a TT however I would argue that a TT is a fantastic environment for that surviving spouse to be able to protect the inheritance (even if it is only comprising of super and life insurance – which is a topic for another post!) from new relationships and to give the family a head start in reducing the tax on investment earnings where the family has lost their breadwinner.