The Elephant In The Room: Is Your Will Up To Date?

Estate Planning

Mark Copsey – Partner

I’ve found one simple question causes relief and yet so much stress at the same time with clients: is your will up to date? Possibly the most overlooked issue in managing personal financial affairs is that of Estate Planning. Whilst clients are desperate to talk about it, it usually requires some prompting.

Why is Estate Planning important? 

Having a valid will is important as it ensures your assets are inherited by the people you would want to see receive them, instead of the distribution of your assets being governed by a legislated formula based on your family relationships and assets.

Estate planning includes: asset protection both for yourself and your beneficiaries, tax minimisation, consideration of beneficiaries, insurance policies and superannuation entitlements, and your requirements in relation to family and other relationships.

This article, the first in a 3-part series on estate planning, is an update from a 2009 article and will cover some, but not all, aspects of estate planning that we believe you should consider.

Testamentary trusts

A testamentary trust is created by a will, and does not come into existence until the death of the will maker. The trust is established when a person(s) (the trustee(s)) holds assets for the benefit of another person or persons (the beneficiaries). Usually the will specifies a date on which the trust must be wound up (the ‘vesting day’).

Whenever children are left assets from an estate, a testamentary trust results. Where no specific age for transfer of the assets to the child is stated, they will receive the asset (i.e. trust must vest) at age 18.  It is important to ensure that the will allows for the income to be applied for the minor’s benefit before age 18, or else no present entitlement will arise.

Advantages of a testamentary trust include flexibility, asset protection and scope for tax planning.

Asset Protection

Assets are preserved for the benefit of beneficiaries in a protected environment, in that they cannot be attacked by external parties, such as creditors, family court and bankruptcy court.  As the beneficiaries do not have a say over the management of the assets, the trustee has some control over the spending habits of young beneficiaries.

For a beneficiary, that may be a child who is intellectually impaired, suffering marital breakdown or financial difficulties, it may be preferable for them to inherit the assets through a testamentary trust rather than personally.

Tax planning

All estate beneficiaries and beneficiaries of trusts resulting from a Will, including minors under 18, are taxed at their ordinary marginal tax rates, provided the transfer to the testamentary trust occurred within three years of the date of death of the deceased.  The concessions apply, even if no capital is ever paid to the beneficiary.

Examples of tax advantages

Assume $1 million assets of deceased estate (e.g. the proceeds of a life insurance policy). The deceased leaves behind spouse and two children. Say investment yields annual investment income of 6% on this investment: $60,000.

If the proceeds went to the deceased spouse, the income of $60,000 would be taxable at the spouse’s marginal tax rate, assuming they have other income, say in this case 38.5% (this could of course be as high as 49%) or tax payable of $23,100.

Had a testamentary trust been established, and the income split between the two children, the tax payable would be $7,200. This results in an annual tax saving of $15,900 which can be contributed to the children’s education, holidays and living expenses. Imagine the tax saved over the period before your child turns 18 or even commences employment, it could be hundreds of thousands of dollars.

• Flexibility of the testamentary trust

The trustee has absolute discretion to decide to which beneficiary income and capital distributions will be made in any year. This means that different beneficiaries may benefit from the testamentary trust in different years, considering the will maker’s original intentions, taxation implications and asset protection aspects relating to the particular beneficiary. There is no requirement that the beneficiaries of a testamentary trust acquire the trust property when the trust ends.  The testamentary trust can make provisions for an extended family.

• Capital protected testamentary trust

The terms of the trust can include the right to income for one class of beneficiary and right to capital for another class (e.g.  spouse has right to income, with capital protected for the benefit of the children). A capital protected trust can be ‘absolute’ (i.e. access to income only, and not capital), or it can have some ‘residual capital’ reserved (i.e. access to income, and access to part of the capital at the discretion of the trustee).

• Can a testamentary trust be established after the date of death?

Assume the deceased left all the assets under the will directly to his or her spouse. In this situation, the spouse could establish a trust (within three years from the date of death of the deceased) and transfer all or part of the estate into the trust. The children, as beneficiaries, would be able to take advantage of the “normal adult” tax rates.

The disadvantage of creating the trust after the date of death is that any remaining capital of the trust must actually pass to the children when they attain, age 18, whereas if the testamentary trust is established under the will of the deceased directly, then the capital does not need to pass to the children.

Capital Gains Tax: gifts under will

During their lifetime, individuals, whether resident or non-resident of Australia, are entitled to a deduction from assessable income for gifts or money or property of $2 or more to approved bodies, as specified by the Commissioner.  However, if assets are gifted under a will to a tax-advantaged entity, a CGT event is triggered to give rise to a capital gain, being the market value of the asset at death, less its cost base.

Some exemptions apply: “a capital gain or capital loss made from a testamentary gift of property under the Cultural Bequests Program, or that would have been deductible if it had not been a testamentary gift, is disregarded.”

Generally, it may be better to gift cash and leave assets to other beneficiaries, or gift the asset during the lifetime of the deceased. Stamp duty should be considered when assets are transferred.

Pay for proper advice

One of my biggest issues in this area is a reluctance to pay for proper advice. Estate Planning is a very complex area and you should have your will prepared by appropriately qualified professionals. Over the years I have seen plenty of poorly drafted wills which simply do not achieve what was desired. Allworths work together with a number of great solicitors and lawyers who can provide the proper advice.

The advice in this newsletter is intended to be general in nature and does not take into account your personal circumstances. Before completing any of the strategies discussed we recommend you speak to your licenced financial advisor or solicitor.

Allworths Wealth Management Pty Limited (AFSL 457155) is the Wealth Management arm of Allworths Chartered Accountants. For further information please contact us on (02) 9264 6733 or email: allworths@allworths.com.au