If you plan to leave substantial assets to your family in your Will, consider giving them the option of inheriting through a Testamentary Discretionary Trust (TDT).
What is a TDT?
A TDT is an effective way to leave income-generating assets to your family in a Will. There are different varieties of TDTs.
The most common variety allows a primary beneficiary to control the TDT absolutely. If the TDT generates income, the primary beneficiary (as trustee) decides how that income is distributed. This continues for each year until the vesting date.
Who benefits from a TDT?
Whilst the primary beneficiary has discretion to distribute income, they can only distribute to people who are members of the class of eligible beneficiaries.
The eligible beneficiaries will normally include children and other family members of the primary beneficiary, and other related entities (including companies and family trusts). Charities can also be included.
What are the advantages?
The advantages of TDT Wills principally include:
Asset protection in the event of the primary beneficiary's bankruptcy or loss of personal capacity. This also assists to some degree in the event of family separation and/or remarriage.
Significant taxation savings, particularly where any primary beneficiary has children including minors who are in a lower tax bracket.
Providing a flexible mechanism to advance funds for the support and education of children or grandchildren.
How much are the possible taxation savings?
Children receive concessional taxation treatment under a TDT, in dramatic contrast to the penalty provisions which apply to discretionary family trusts established by Deed.
The amount of savings depends on the amount generated by the inheritance, the number of beneficiaries, and the amount of their individual incomes.
A fairly typical example is illustrated by the table below.
How many TDTs can I have?
Your Will can have one or multiple TDTs. Each TDT must have at least one “primary beneficiary”.
Couples with younger children typically make mirror wills where, if one parent dies before the other, the survivor is the primary beneficiary of a TDT for his or her benefit, enabling direction of income from the TDT to the dependant children. TDTs are established for the children on maturity, where there is no surviving parent.
Alternatively, if a couple has adult children, each adult child might be the primary beneficiary of a separate TDT, to be established upon the demise of both parents.
Are there any risks?
Our Wills usually include powers relating to which inherited assets pass to the TDT. This can enable the primary beneficiary to choose to take assets personally, where appropriate.
Beneficiaries are encouraged to take financial and tax advice at the time of inheritance so that all suitable financial strategies can be considered.
Possible Tax Savings: Example
the inheritance (including all life insurance and superannuation proceeds) generates annual taxable income of$60,000 per annum.
the primary beneficiary has three dependent children, who have no separate income of their own.
Based on 2013 -14 tax rates:
Under a standard Will...
Under a TDT Will...
Where the primary beneficiary has no other taxable income
The primary beneficiary would pay tax of approximately $11,674 p.a. on the whole inheritance income (i.e. $60,000)
If the inheritance income is split equally, each beneficiary would pay NO TAX as they would all be under the tax-free threshold TAX SAVING: $11,674 p.a.
Where the primary beneficiary earns a wage of $60,000 p.a.
The primary beneficiary would pay tax of approximately $33,877 p.a. on the total inheritance income plus wages (i.e. $120,000 total)
If the inheritance income is split equally between the children, each child would pay NO TAX* and the primary beneficiary would only pay tax of approx. $11,674.00 on the wages TAX SAVING: $22,203 p.a.
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