A trust is a legal relationship between a trustee who looks after or administers the trust, and a beneficiary, the person who benefits from the trust. The nature of a trust is a legal obligation on the trustee to look after the trust property, and invest it and use it wisely and carefully for the benefit of the beneficiary. The beneficiary has the right to receive benefits from the trust as required by the terms of the trust, and some rights to information about the trust and how the trustee is operating it.
The terms of the sort of trust being discussed here would usually be set out in a document such as a trust deed or a Will.
A trust deed may be simple or complex depending on what is needed. It is a legal document which sets out:
- who is to be a trustee;
- the person or people who are to be the beneficiaries;
- when and how the trustee is to provide benefits to the beneficiary;
- what things the trustee is to take into account; and
- what other powers and duties the trustee has.
The person who sets up a trust by a deed is usually called the settlor. For tax reasons, the settlor is often an unrelated party or a more distant family member who will not be a beneficiary and who has nothing else to do with the trust. If the trust is set up under a will, the settlor is known as the testator.
In trusts for the benefit of a person with a severe disability, that person may be called the principal beneficiary. Other beneficiaries, who are entitled to share what is left after the person with a severe disability has died or no longer needs help from the trust, are called the residuary beneficiaries.
A trust deed may also name an appointor, a person who is separate from the trustee and who can appoint new trustees or beneficiaries, or make changes to the terms of the trust, and who therefore often has significant control over the trust. The appointor will often be a parent or other close relative of the person with a severe disability, who has contributed property to the trust.
The property contributed to the trust is often called the capital and the trust earns income on that capital: rent on real estate, interest on money in the bank, dividends on shares, and so on.
A discretionary trust gives the trustee the power to decide to whom to pay a benefit out of a range of people, and how much to give to them, if anything. The trustee must consider all beneficiaries but is under no obligation to distribute to all beneficiaries.
A testamentary trust means any trust set up under a Will. However, people often use this term to refer more specifically to particular types of trusts under wills which may have tax planning advantages.
The person making a will is called the testator (this covers men and women although a woman making a will may be referred to as the testatrix). A will appoints an executor (sometimes said to be an executrix if a woman), or a number of executors, to administer the estate after the testator dies. If the will creates a trust, it will also appoint a trustee, who may be the same person as the executor, or may be different.
The property owned by the testator at the time of death is the testator’s estate. The people who share in the estate under the will are called the beneficiaries.
What do the trustees have to do?
The essential relationship involved in a trust is the responsibility of the trustee to act in the interests of the beneficiary in accordance with the terms of the trust.
If the trust is discretionary, it is up to the trustee to decide whether to do anything, and if so, what to do, and it is not generally possible to compel the trustee to act in a particular way. You can control this to some extent through provisions in the trust deed or will.
In brief, the duties of the trustee are:
- to implement the trust in accordance with its terms;
- to consider whether to spend trust money or otherwise use the trust property for the benefit of the beneficiary, with reasonable frequency;
- to invest trust property prudently and in accordance with the directions contained in the trust;
- to avoid unnecessary expense or waste of trust property;
- to take professional advice (legal, financial, accounting, medical or other advice) if required (at the expense of the trust); and
- to keep accounts of assets and liabilities and income and expenditure and be ready to account to the beneficiary if required.
What are the rights of the trustees?
Trustees have the right:
- to have their reasonable trust-related expenses paid from the trust;
- to ask the Supreme Court to give advice and directions if they have a serious doubt as to what they are entitled to do—for example, if there is ambiguity in the way the trust deed is expressed, or if difficult choices arise which might result in a breach of trust, or if the trust seems to require something unusual or odd;
- to recompense from the trust for the work they do, if the trust deed or will provides for pay for the trustee. It may be a very reasonable thing to provide for payment to trustees, because the trustees have a lot of responsibility and may have to spend a lot of time and effort deciding what to do in the best interests of beneficiaries; and
- to appoint additional or replacement trustees to take over the role of trusteeship if the original trustees cannot continue.
Many of the rights and obligations of trustees are regulated by the Trustee Act 1925 (ACT).
What rights does the beneficiary have?
Beneficiaries essentially have the right to have the trust administered in accordance with its terms and the right to call trustees to account.
The beneficiary can express his or her wishes and ask the trustee for assistance, but cannot compel a trustee to act in a particular way unless the trust deed or the will allows this.
Beneficiaries are entitled to require an accounting from the trustees, but are generally not entitled to an account of the trustees’ reasons for making a decision in one way or another. If the beneficiary believes that the trust has not been properly implemented, the beneficiary may apply to the Court for assistance (although this is always expensive and should be avoided wherever possible). A beneficiary with a disability may need help to do this such as a litigation guardian.
Otherwise, the beneficiary can expect to benefit from the assets in the trust, but the trustee may well have to balance short and long term considerations, especially in a trust which may last for many years. It may not be a wise thing to spend all of the money of the trust on something now, even though it seems a good thing to do, if this will leave the trustee without any resources in the future.
How are trusts taxed?
As a trust is treated as a separate legal structure for tax purposes, it has its own tax responsibilities. Trustees have an obligation to submit tax returns and pay tax as required. The trustee is entitled to pay tax from the trust assets. Sometimes it is the trust which will have to pay tax on income. Sometimes tax is payable by the beneficiary who receives income. These issues are complex, and you should seek professional advice.
Trusts are not entitled to the tax-free threshold available to individuals, and higher rates of tax (the maximum personal tax rate) may apply to income retained by trusts (that is, income not distributed to or used for a beneficiary). However, a trust created by a will which is a genuine testamentary trust is subject to the ordinary personal rates of tax.
Are there other costs of maintaining a trust?
If the trustee uses an accountant to prepare accounts and tax returns, there will be fees for that work. If the trustee is a company, there will also be legal and accounting fees associated with setting up and maintaining the company.
These sorts of expenses, and the legal and other fees of setting up trusts, are something you should consider with your professional advisers before deciding whether to set up a trust now, or through your will, or at all, what assets to place in trust, and when to do so.
Before establishing the trust, there should be sufficient capital to enable the trust to earn income to pay the costs of maintaining the trust as well as make distributions of a sufficient amount to benefit the beneficiaries.
What is a Testamentary Trust?
It is a trust established under a will, but it does not come into effect until after the death of the person making the will.
Is a testamentary trust different from a family trust?
Yes. Although both testamentary and family trusts have similar features, such as the ability of the trustee to decide which beneficiaries of the trust will receive income, there are considerable taxation advantages for infant beneficiaries (those under the age of 18 years) under a testamentary trust.
Income received by infant beneficiaries from a family trust will be subject to penalty tax rates should that income exceed $641.00. Under a testamentary trust, infant beneficiaries receive the full tax income threshold of $6,000 tax-free, with income above that amount being taxed at normal adult rates. Because of the uncertainty as to whether the Federal Government will tax trusts in the future, it is advisable that testamentary trusts be incorporated in a will as an option that can be triggered as circumstances dictate. Even if testamentary trusts are taxed at some future date, there may still be significant tax or other advantages to your beneficiaries if you include a testamentary trust as an option.
If you have a beneficiary who has an intellectual impairment, you could leave part of your estate for that person’s benefit by naming that person as the primary beneficiary (but not a trustee) of a testamentary trust. This will prevent unscrupulous persons from taking advantage of the beneficiary and protect his or her share of your estate. Either a family member, professional adviser or a trustee company could be named as the trustee of this type of testamentary trust.
Who can be trustee of a testamentary trust?
Anyone you wish, including the executors of your will, your spouse or partner, or your children. The trustee has effective control of the trust, so the trustee should be a person who you know, and whom you trust to act in the best interests of those who are to receive the main benefit of either the whole or that part of your estate that will be left subject to the testamentary trust. It is possible to establish a number of testamentary trusts under a will and name different trustees for each of them.
What is difference between the settlor and the appointor?
A settlor is the person who starts the trust. Typically, the settlor signs the trust deed and gives the trustee a nominal sum (for example, $10). The $10 merely starts the trust. Later the appointor can instruct the trustee to accept other assets into the trust. The settlor should not be a family member because the settlor cannot benefit under the trust. Your accountant or financial planner are the most common settlors.
The appointor is the person who appoints or removes trustees. This is an important office because the appointor (sometimes called guardian) controls the trustee and therefore controls the family trust. The appointor can remove and appoint the trustee whenever they desire. The same person can be both the appointor and the trustee. You can appoint yourself, or yourself and your spouse, as the appointor.
If I left my estate to a testamentary trust and my spouse needed the money, would my spouse be able to gain access to it?
Providing your spouse is a beneficiary of the testamentary trust, the trustee could pay all or part of the capital and/or income to your spouse, or to any other named beneficiary of the trust.
Are there any other advantages of a testamentary trust apart from taxation?
Yes. There are several. A testamentary trust could also protect beneficiaries from creditors, or litigants in professional negligence claims and can also protect spendthrift or intellectually impaired beneficiaries.
What should I consider before establishing a testamentary trust under my will?
There will be ongoing administrative costs involved in maintaining a trust, such as accountancy fees for preparation of trust taxation returns. Factors that you should take into account, include a consideration of whether the income generated by your estate would be sufficient to warrant a testamentary trust, or whether there are special needs such as a beneficiary with an intellectual impairment. If, for example, all your assets are owned jointly with another person or by a family trust, there may be insufficient assets in your estate to make the establishment of a testamentary trust worthwhile.
If you are uncertain about whether you will have sufficient assets in your estate, a testamentary trust can simply be included as an option in your will, with the trustee(s) making the decision whether or not to implement the trust at the relevant time.
What if I already have a family trust?
The assets of your family trust will not form part of your estate. If all assets are presently owned by your family trust, there would be no point in establishing a testamentary trust unless you planned to wind down your family trust and transfer the assets in it to yourself.
Is it possible to set up a similar trust after my death if I don’t change my will now?
Yes, but there are limitations. The post-death trust beneficiaries are limited to those who would have received a share in your estate under the intestacy legislation (the law that applies where you do not make a will). In addition, the capital of the trust would eventually have to be paid to those beneficiaries in the proportions to which they would be entitled under intestacy. With a testamentary trust, the capital of the trust can be paid to whomsoever the trustee decides among the beneficiaries.
What advice should I obtain before deciding to establish a testamentary trust?
You should consult your accountant, solicitor and/or financial adviser, to ensure that you are aware of all the advantages and disadvantages (some of which will undoubtedly depend on your own particular circumstances, both financial and family), before you make your decision.
Alternatively, a testamentary trust can simply be included as an option in your will to cater for future changes in your circumstances or those of your beneficiaries.