Blog by Andrew Graham Contact Email: email@example.com
REVENUE ISSUES RE WILLS AND ESTATES
The use of testamentary trusts has been widely promoted over recent years by those in the financial planning industry and also by accountants and lawyers.
The principal reason for the use of the testamentary trust, from the point of view of potentially saving tax, is due to the notion of “excepted trust
income” under Section 102AG(I) of the Income Tax Assessment Act, 1997 (“the Act”).
Normally minors who derive non-personal service income by a distribution from a discretionary trust are taxed at penalty rates under Division 6(iv) of
the Act where the income received exceeds $416.00. However, where the minor receives income from a trust created in the Will of a person, the income
is treated as “excepted trust income” and the minor is taxed on that income as if the minor were an adult. This allows the recipient of the trust income
to receive the first $18,200.00 tax free (if the minor has income from no other sources) and also allows the minor the benefit of the progressive tax
rates where the income received exceeds $18,200.00 up to the maximum tax rate of 47% (including the 2% Medicare levy) where the income exceeds $180,000.00.
Accordingly, potentially significant amounts of tax may be saved where the children of an elderly person have children under the age of eighteen (18) years.
The testator, instead of leaving the whole or part his estate to his child or children could instead establish a testamentary trust for the benefit
of that child or children and their wider family members. Typically, each child is appointed as the trustee of the testamentary trust and the beneficiaries,
being discretionary, include members of that child or children’s family. The tax payable by the family unit will be significantly less than it would
have been had the testator left his estate directly to his child, or children.
There are other potential advantages of use of testamentary trusts, but this blog concentrates solely on the revenue implications (both positive and negative)
of such trusts.
Whilst significant tax savings may be achieved where minor beneficiaries are eligible to receive income of the testamentary trust, caution should be exercised
before concluding that testamentary trusts are the panacea of estate planning. The following potential disadvantages of testamentary trusts should
also be taken into account:-
1.Principal Place of Residence – A testamentary trust does not enjoy the principal place of residence exemption for capital gains tax purposes. Accordingly,
if it is intended that a beneficiary of a testator use a property received under the Will of a deceased as his or her principal place of residence,
if such property were devised to the trustee of a testamentary trust (as indicated above, usually by a child of the deceased) any profit realised on
the eventual sale of the property by the testamentary trust will not be free of capital gains tax. The net capital gain may be reduced by 50% if the
property is held for more than twelve (12) months, but the CGT free status of the principal place of residence will be lost.
2.Whilst stamp duty will not be payable upon the transmission of any dutiable property from the deceased to the Trust (so long as it “passes” under the
Will of the deceased), any transfers by the Trust to any beneficiary of the trust will be liable to stamp duty. Careful consideration therefore needs
to be given to the actual assets, especially real property, which are left to a testamentary trust by the testator.
3.A discretionary trust, unless the trust deed establishing the trust specifically excludes any foreign person from being a beneficiary, will be treated
as a “foreign person” for the purposes of the Duties Act, NSW. This means that if a discretionary trust owns real property, not only does it pay land
tax on the full value of the property (i.e. does not get the benefit of the tax free threshold, it is also required to pay the surcharge rate of land
tax of 2% (in addition to standard land tax). Furthermore, for land tax purposes, the principal place of residence is not exempt, even though it may
be used by the beneficiary as his home. The common testamentary trust is really a discretionary trust embodied in the will of the testator which comes
to light upon the death of the testator. Significantly the terms of the trust cannot be amended (for example to exclude foreign persons as beneficiaries),
unless the will permits it.
4.If the trustee of a testamentary trust uses money of the trust (inherited from the deceased) to purchase real property, foreign surcharge duty (calculated
at the rate of 8% on the value of any residential land) could be payable even if the deceased was not a foreign person.
B.Partition of Estate
A device which can produce potentially large stamp duty savings is to partition an estate, rather than to agree on the division of specific assets under
a deed of family arrangement.
The following simple example illustrates the potential savings in stamp duty:-
Assume that properties A and B are left to the two beneficiaries, X and Y equally, but that X wants to take Property A and Y wants to take Property B..
If property A has a value of $2,000,000.00 and
property B has a value of $5,000,000.00 then:
Option 1: Deed of Family Arrangement
Under a Deed of Family Arrangement X gets A (worth $2,000,000.00) and Y gets B (worth $6,000,000.00).
The total duty payable is calculated as follows:-
i. A – duty payable on 50% of $2,000,000.00 ($1,000,000.00) = $40,490.00
ii. B – duty payable on 50% of $6,000,000.00 ($3,000,000.00) = $150,302.00
Total duty = $190,792.00.
Option 2: Partition
The alternative would be to partition the estate under Section 30 of the Duties Act, NSW.
Under the partition X gets 100% of A and Y gets 100% of B. The duty payable is then:
i. X – Duty payable $50.00
ii. Y – Duty payable on $2,000,000.00 ($6,000,000.00 – 50% x $8,000,000.00) = $95,302.00
Total duty = $95,352.00
Therefore the stamp duty saved by choosing to Partition, rather than to use a Deed of Family Arrangement is $95,440.00
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The above demonstrates that careful planning can result in significant revenue savings by beneficiaries following the death of the testator.
It pays to get advice from a professional person having experience and expertise in revenue implications of estate planning and deceased estates and we
at Peacockes Solicitors can guide you in the right direction.