Month: January 2016

I received this today from my accountant, Tony Cammarata at Prudential Partners. I thought it well worth sharing with you.
There are basically two ways to give someone a gift when you die:
You can give it to them ‘outright’; or
You can give it to them subject to some ‘rules’.
When you give an outright gift to someone under your Will, the beneficiary receives the gift from your executor, with no strings attached. The beneficiary can do what they like with it.
If you impose any rules on the gift, then you have effectively created a ‘testamentary trust’, and things get a little more complicated.
The simplest type of testamentary trust is one that is created when you give a gift to someone subject to them reaching a certain age. Under this scenario, your executors will hold the gift as ‘trustee’ until the beneficiary reaches that age. When the age is reached, the beneficiary will then receive the gift and the trust comes to an end.
But this simple scenario is not what people generally mean when they talk about creating a ‘testamentary trust’ in their Will. The term ‘testamentary trust’ has become associated with a strategy whereby you give ‘control’ (but not ownership) over assets to someone, subject to a set of sophisticated rules. These trusts can last for generations.
We liken a testamentary trust to ‘bubble-wrap’ that surrounds the gift you are giving someone. They can see the gift, they may be able to control what happens to the gift, use the gift, but legally speaking, they do not ‘own’ the gift. The gift comes wrapped in some rules that must be obeyed.
The key elements of a testamentary trust are:
Certain assets are singled out to be held in the trust, called the ‘trust property’;
Someone is given control over the trust property, called the ‘trustee’; and
The trustee must manage the trust property (and its income) for one or more people, called the ‘beneficiaries’. The beneficiaries may include the trustee.
So why would someone complicate the lives of their beneficiaries in this way? Why wouldn’t you just give the gift to your beneficiary outright?
There are a number of reasons for this, but the main ones are to protect the gift from harm, and to potentially access some tax benefits.
Because the gift is surrounded by bubble-wrap, and is not owned by the beneficiary, whatever happens to the beneficiary will not impact the gift. For example, if the beneficiary goes broke, or has a spending habit, the gift remains protected.
The tax benefits are a little more complex to explain. But basically, because the gift is not owned by the beneficiary, any income or taxable gains from the gift do not immediately flow to the beneficiary. Each year the trustee of the gift can decide who is to receive the income and gains, and can thereby manage how much tax is paid by spreading the income and gains around a number of taxpayers.
A popular type of testamentary trust is called a ‘second chance’ trust. Under this strategy a beneficiary receives part of a gift when they reach a certain age (say 25), and then receives the balance of the gift when they are a little older (say 35). If the beneficiary gets into financial trouble between 25 and 35 (say from a failed business or divorce) only the assets they received at 25 are at risk. When they reach 35 they receive the balance of the gift, and have a ‘second chance’ at properly managing this wealth.
As you can imagine, there are as many different types of testamentary trusts as you can conceive of conditions that someone may wish to impose on a gift.