Why every property investor should consider a testamentary trust will

Whether you just own a home, or you have an expansive investment property portfolio, you might like to consider opting for a Testamentary Trust Will.

A Testamentary Trust Will is a will that is only set up after you pass away and acts as a discretionary family trust. The trust has one or more people who hold and control the trust property (“the Trustee”) on behalf of a range of other persons who will benefit from the trust (“the Beneficiaries”). As it is discretionary, it is entirely up to the trustee to decide each year which one or more of the beneficiaries will receive any income generated by the trust assets, and who will receive the remaining assets when the trust eventually ends.

So what are the advantages of having a Testamentary Trust Will?

First, flexibility. A simple old-fashioned Will divides a deceased person’s assets (their “estate”) into fixed shares (for example, between their children in equal shares). However, this will also mean that their children will pay tax on any income generated by their inheritance, at their own marginal tax rate (which could be up to 45% plus 2% Medicare Levy). Now, suppose instead that each child was able to receive their inheritance in a Testamentary Trust. This would mean that they could allocate the income from their inheritance each year between themselves and/or other family members, such as their spouse and their own children. It also means that they could allocate the assets in their trust flexibly as well between the different beneficiaries of their trust, depending on their individual needs. This flexibility allows for changes in personal circumstances so that distributions of income and assets can be made to suit each child’s needs from time to time.

Second, said flexibility together with special tax concessions that apply to a Testamentary Trust income gives rise to significant taxation benefits. Under section 102AG of the Income Tax Assessment Act 1936, any income received by a minor beneficiary (under 18 years old) from a Testamentary Trust is treated as an “excepted trust income” and taxed as if that beneficiary were an adult. This means that adult tax rates apply so that the first $18,200 received by that beneficiary from the trust is tax-free every year. 

For example, say Homer’s Will leaves two investment units directly to his wife Marge. Say they earn a combined rent of $50,000pa. If Marge is on the top tax rate, she will pay tax and Medicare Levy of $23,500 just on that income. However, if, instead, Homer’s Will leaves the units to a Testamentary Trust for his wife and 3 kids, if the kids earn no other income then the $50,000 rent can be split equally between them and they pay no tax at all – a saving of $23,500 in just one year! If this situation continued for 10 years, the savings could add up to $235,000!

Third, by having assets held in a discretionary Testamentary Trust, each child’s inheritance is protected from lawsuits that might arise from their own business or profession, or from creditors if they fall on hard times. This is because it cannot be argued that the child owns the assets, as they are just one of the number of potential beneficiaries of the trust who only get anything if the trustee says so. This also means that the trust’s assets are protected if any of its beneficiaries file for bankruptcy. It can also provide meaningful protection of trust assets in the event of a familial relationship breakdown, with the Family Court often treating the Testamentary Trust as a financial resource instead of part of the matrimonial property that is available for division by the Court.

The only drawback of having a Testamentary Trust Will is that it is usually more expensive to draw up than a traditional Will. Additionally, each year after the trustor’s death, the trust has its own tax return to lodge, which may cost around $1,500 - $2,000 per year. But if the tax savings are anything like in the above example, the Testamentary Trust will more than pay for itself.