Testamentary Trusts
This blog entry is about a tax-saving & deferral vehicle that is sometimes overlooked in will planning called testamentary trusts. The topic of today’s discussion is the type of trust that is created after death according to the deceased’s will.
Testamentary trusts are taxed differently than other trusts. All trusts are taxed as individuals, not as corporations, with some exceptions. For example, many refundable tax credits are not available to trusts. Fortunately the dividend tax credit and the donation tax credit are available to trusts.
What’s especially good about testamentary trusts compared to other trusts is that they are taxed at the graduated tax rates. Other trusts are all taxed at the highest tax rate.
So if you establish multiple testamentary trusts then your estate can benefit from the lower tax rates with each trust. Depending on the income the trust earns, tax savings of up to $17,500 per year per trust is possible. You can create a trust for each beneficiary. It might be possible to create trusts for combinations of beneficiaries as well. So if you have two heirs the maximum number of trusts might be two or three: one for each beneficiary; and possibly one trust for both beneficiaries.
Another way that testamentary trusts are different from other trusts is that they can have any year-end, not just December 31st. By having a year-end early in the calendar, tax can be deferred for the better part of a year.
Another tax benefit is that testamentary trusts do not need to make installment payments.
There are many reasons for creating testamentary trusts in addition to the potential tax savings. You might want to preserve capital for your children from an earlier marriage. Or you might want to use trusts if someone is incapable of handling their financial affairs for any number of reasons such as age, illness or addiction. Setting up a trust for charity is another option. Or you might want your capital to be distributed to your heirs gradually.
All of these are good reasons for considering the use of testamentary trusts in estate planning.