A testamentary trust allows you to decide, while you are alive, how the wealth you bequeath should be used. Unlike a will, it specifies who the beneficiaries of your estate will be, but also how they will access the funds and, above all, under what conditions.
A trust allows your wealth to last longer instead of giving it to your beneficiaries all at once. You set up a trust when you want a certain amount of time to pass before the beneficiaries have access to the full amount. It’s also a way to make sure your wealth is shared equitably between your heirs, avoiding countless headaches about your estate.
A testamentary trust is a contract that entrusts the administration of your estate to an intermediary. According to Retraite Québec, a testamentary trust involves three parties: the transferor, the trustee and the beneficiary.
According to Marie-Ève Ferland, a financial planner at National Bank, a testamentary trust is particularly useful in two situations: when the beneficiaries are bad at managing money or they have debts. In such instances, a trust will ensure healthier inheritance management.
If one of the beneficiaries has trouble managing a budget, for instance, you can put constraints on the payments, specifying that the capital won’t be distributed until the beneficiary has been discharged from bankruptcy or until they have completed their education and embarked on their career.
In the case of beneficiaries who are minors, you can set aside a portion of the estate for their education, another portion to provide them with a moderate income, and stipulate that the capital won’t be distributed in its entirety until five years after they complete their education. A testamentary trust is particularly useful if you want to avoid a situation where your children find themselves with $200,000 apiece in their bank account at age 14 and spend it all before they become adults.
A testamentary trust is a good way to protect the bequeathed wealth. The person who has died can remain in control of their assets after death. They give what they want, to whom they want, under the conditions they want.
When setting up a trust, it is important to give clear directives and anticipate as many situations as possible. If you want the capital to finance your child’s education, and they quit school, you can set a specific age when they can access their inheritance.
Since a trust is a legal entity with its own assets, the bequeathed inheritance remains separate from the beneficiary’s wealth. The trust is a legal entity in its own right. The funds held in it are unseizable and are not part of the beneficiary’s wealth. For people who have financial troubles, their inheritance will be safe from creditors. Wealth placed in a trust is also safe from the division of assets during a divorce.
A trust is also a good option for blended families, so that the surviving spouse can draw income from the trust until the children from the first marriage become adults.
You can literally put anything in a trust: a house, an RRSP, a life insurance policy—even a car collection. You can even bequeath property rights to buildings, while assigning a manager and delineating the distribution of the wealth in a variety of ways. For instance, you can decide that the income from rental properties will be distributed to your children until a set age, such as after they complete their education. After that, they become the owners.
A payment schedule and a time limit on the life of the trust must be established. This is required because the trust exists and the trustee is in charge of it as long as the assets have not been fully distributed to the beneficiaries.
The trustee has the following responsibilities: “They are required to file tax returns for the trust and manage the assets, including making safe investments. They are also accountable for how they liquidate the assets,” says Marie-Ève Ferland. It is therefore important to ensure that the person can fulfil their commitments to the trust and execute them fairly quickly, if possible.
Revenue from a trust is taxed at the marginal rate and there are few tax advantages. As a result, up to 55% of the revenue from a trust can be taxed. Nevertheless, there are still a few minor advantages, such as income splitting.
Imagine, for instance, that upon your death you leave $500,000 in capital to your spouse, who is employed. The interest generated from this gift would be added to their tax return. However, creating a testamentary trust allows you to split this income, as the trust is a legal entity with its own tax return. In the end, the taxes paid by your spouse would be much lower.
In addition, the first $10,000 of a trust’s revenue is non-taxable. That said, a testamentary trust is not the best option for tax savings. It is mainly used to protect your estate and beneficiaries after your death and to ensure a smooth disbursement of the estate. No matter what you do, when it comes to estates and inheritances, talk to your adviser. They can help you make the best choices and recommend a strategy to suit your needs.
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