Bequeathing Your Estate to Your Children: Testamentary Trust vs Direct Inheritance
In Australia, estate planning is a crucial step in ensuring that your assets are distributed according to
your wishes and in the most financially beneficial way for your beneficiaries. One option available to
you is to bequeath your estate to your children via a testamentary trust, rather than directly to
them. This approach has both advantages and disadvantages, depending on your family’s
circumstances and goals. Below, we will explore these pros and cons to help you make an informed
decision.
What is a Testamentary Trust?
A testamentary trust is a trust created by a will that only comes into effect upon the death of the
will-maker (testator). It allows for the structured distribution of the deceased’s estate and can offer
greater control over how and when beneficiaries receive their inheritance.
Advantages of Bequeathing via a Testamentary Trust
- Tax Benefits
One of the most significant advantages of a testamentary trust in Australia is the tax benefits
available to beneficiaries, particularly income splitting. A testamentary trust allows income to be
distributed to beneficiaries in a way that maximises their after-tax position. For example, if you have
minor children or grandchildren, the trust can distribute income to them at adult tax rates, which
can result in significant tax savings.
Also, income splitting allows the trust to distribute income among beneficiaries who may be in lower
tax brackets.
Minor children (under 18) can be taxed at normal adult rates on trust distributions, instead of at the
penalty rates usually applied to minors’ income. - Asset Protection
A testamentary trust can provide protection of assets from various risks, such as:
Divorce or separation: Assets held in a testamentary trust may not be considered part of a
beneficiary’s divisible property in the event of divorce, protecting the inheritance from claims by an
ex-spouse.
Bankruptcy: If a beneficiary becomes bankrupt, assets in the trust can often be protected from
creditors, ensuring that the inheritance remains intact.
This level of protection makes testamentary trusts especially beneficial in situations where there
may be concerns about a child’s financial stability or vulnerability to litigation. - Flexibility and Control
As the creator of the trust, you can design it to provide specific terms and conditions on how the
estate is managed and distributed. You can ensure that:
(a) Children receive distributions at a particular age (e.g., not before they are mature enough to
manage funds wisely).
(b) Funds are used for specific purposes, such as education, housing, or health care, rather than
being spent frivolously.
(c) The trust is managed by a trustee whom you trust to act in the best interests of your
children - Minimising the Impact of Family Disputes
A testamentary trust can help to minimise family disputes over inheritance by establishing a clear,
structured method of distribution. This is particularly useful in blended families or where there are
children from previous relationships. The trust ensures that your estate is managed according to
your wishes, potentially avoiding litigation and disputes between family members.
Disadvantages of Bequeathing via a Testamentary Trust
- Complexity and Cost of Setup
One of the primary drawbacks of a testamentary trust is the complexity involved in setting it up. The
trust requires careful drafting, and its terms must be clear and comprehensive to avoid ambiguity.
Additionally, there are costs associated with creating and administering the trust:
You will need to pay for legal and accounting services to establish the trust as part of your will.
Ongoing trustee fees and administrative costs may apply, especially if you appoint a professional
trustee. - Ongoing Administrative Burden
Once the trust is in place, it requires ongoing administration. Trustees must comply with tax
reporting obligations, manage investments, and ensure that distributions are made according to the
trust’s terms. For beneficiaries, this can mean a loss of immediate control over the assets, as they
will depend on the trustee to manage and distribute their inheritance.
If you appoint a family member as a trustee, they may need to spend significant time managing the
trust, which could be burdensome if they are unfamiliar with financial or legal matters. - Restricted Access to Assets
Beneficiaries may not have full, immediate access to the estate, depending on how the trust is
structured. This can be a disadvantage if they need large sums of money for significant life events
(e.g., buying a house, starting a business) but are restricted by the terms of the trust.
In some cases, children might find the conditions or terms of the trust to be overly restrictive,
especially if they feel they are mature enough to handle their inheritance.
- Potential for Conflict with Trustees
While a trust is designed to protect beneficiaries, it can also lead to conflicts between beneficiaries
and trustees. If a child disagrees with the trustee’s management of the assets or distribution
decisions, it could create tension or lead to legal disputes. This is especially common when the
trustee is not a professional, but a family member or friend.
Conclusion: Is a Testamentary Trust Right for You?
Deciding whether to bequeath your estate via a testamentary trust or directly to your children
depends on your family’s unique situation.
If you have young children or family members in unstable financial situations, a testamentary trust
offers protection, tax advantages, and control over the distribution of your assets.
On the other hand, if you want to avoid complexity, ongoing costs, and allow your children
immediate control over their inheritance, direct bequests may be more appropriate.
For many Australians, the testamentary trust strikes a balance between protecting wealth and
providing for beneficiaries, but the best choice will depend on your personal circumstances.
Consulting with a legal or financial advisor is essential to tailor a plan that suits your family’s needs
and maximises the benefits of your estate planning.
Should you require further information about gifting money to children please feel free to contact
Peter Quinn by submitting an enquiry or calling us on +61 2 9580 9166 to book an obligation-free
appointment.
The information in this document does not consider your personal objectives, financial situation or
needs, so you should consider its appropriateness regarding these factors before acting on it. It is
important that your personal circumstances are taken into account before making any financial
decision, and it is recommended that you seek assistance from your financial adviser.