Using trusts in estate planning
You can establish a trust that takes effect during your lifetime or upon your death. Either way, trusts can be used to accomplish a number of estate planning goals.
While trust strategies can be complex, the concept of a trust is relatively straightforward. A trust is created when you transfer ownership of your assets to a trustee (either an individual or a trust company) with instructions for them to use those assets for the benefit of a beneficiary.
2 main types of trust
1. Testamentary trust
A testamentary trust is created in your will and takes effect upon your death. The assets relating to a testamentary trust form part of your estate, so they are subject to any estate fees or taxes that apply. The trust can be changed at any time before your death by simply having a new will prepared.
2. Living trust
When you establish a living trust (also known as an inter vivos trust), property ownership is passed immediately to your beneficiaries. You can add more property to the trust over time. Because the transfer of ownership is during your lifetime, the trust assets do not form part of your estate and are not subject to probate.
The decision on whether to set up a living trust or a testamentary trust depends on many factors, including your need for the assets during your lifetime. A lawyer or other professional adviser can advise you on the best strategy for your specific estate planning needs and goals.
7 common uses for trusts
Whether it’s best to establish a trust during your lifetime or upon your death will depend on the intended use and your personal situation.
1. You have children from a previous marriage
If you remarry, a trust can provide support for your spouse during their lifetime, while ensuring that your children from a previous marriage eventually inherit any remaining assets.
2. Your spouse lacks financial expertise
If your spouse needs help with money management after you die, a testamentary trust allows a qualified trustee to manage the trust assets on behalf of your spouse.
3. Your spouse or child is disabled
A trust can be used to ensure a disabled spouse or child receives an appropriate level of care and has sufficient assets to maintain this care after you die.
4. You want to provide a gift to minors
You can use a trust to provide income to minor beneficiaries (for example, children or grandchildren) in their younger years and to pay out the capital when they reach a specified age.
5. You want income taxed at a lower rate
Both types of trusts offer potential tax benefits, depending on the situation. Income earned in a living trust is taxed at the highest marginal tax rate, but any trust income that is distributed to adult beneficiaries is taxed in their hands. So if your beneficiaries are in a lower tax bracket, the investment income can be taxed at their lower rate.
Income earned in a testamentary trust is taxed at the same graduated marginal rates that apply to individuals. So if the trust beneficiaries have a high marginal tax rate, the income can be taxed in the trust at the trust’s lower rate, then paid out to the beneficiaries after this tax is paid by the trust.
6. You want to provide a future gift to charity
You can use a trust to provide trust income to your beneficiaries for their lifetime. Upon their death, the remaining money in the trust is donated to the charity you’ve specified.
7. You want to bypass probate
With a living trust (but not a testamentary trust), you bypass probate for any assets held in the trust, and gain the certainty of knowing that assets are transferred and distributed as you intended. This also offers greater privacy for trust assets, as probate is a public process and anyone can access these records.
Get professional advice in setting up a trust
Trusts are sophisticated arrangements that can involve a number of tax and estate planning issues. A trust must be properly structured to achieve your estate planning goals. Get professional advice before taking action.