People who didn’t know the late Susan B. Waters or have the opportunity to hear her speak really missed out on one of the leading lights of the insurance...
By Jamie Golombek
Even if a high-net-worth (HNW) client chooses to leave money outright to her or his kids, it may still make sense to include trusts as part of the estate plan.
Rather than leaving an asset directly to a beneficiary under a will, the HNW individual could instead create a trust by naming a trustee who would manage the asset on behalf of the beneficiary under terms that she or he specifies.
This arrangement is frequently used for gifts or bequests to a minor beneficiary, who has not yet reached the age of majority. Since the beneficiary cannot legally manage the funds, someone must be appointed to manage property on the child’s behalf until the child reaches the age of majority.
When clients choose to leave an inheritance for a minor beneficiary in a will, they should specify that assets will be left in trust for the benefit of the child and designate a trustee who would manage the trust funds.
How trusts help
A trustee must abide by the terms specified for the trust, such as how trust property should be managed and when property can be distributed, which are outlined directly in the will. Leaving assets in a trust, rather than naming direct beneficiaries who will receive assets outright, can help to solve some common estate planning mistakes, not just for minor beneficiaries but for almost any estate.
For example, let’s say Emily wants to fund postsecondary education expenses for her 18-year-old son, Andrew. She has earmarked $100,000 and plans to use the funds to pay for Andrew’s annual tuition and living expenses while he attends school and establishes his career. As part of her estate planning, Emily has decided that she would want Andrew to have these funds if she were to pass away.
Suppose Emily leaves a bequest of $100,000 to Andrew in her will. The estate administrator would pay $100,000 to Andrew, and he could use the funds for his education and living expenses, as Emily intended. Since Andrew would receive the funds directly, however, there won’t be any limits as to how he spends the funds. If Andrew decides that he’d really rather have a nice sports car, there is nothing preventing him from spending the entire $100,000 on this purchase.
Rather than giving money to Andrew all at once, it may be better for Emily to leave the $100,000 in the care of a trustee who would manage the funds on Andrew’s behalf for specified purposes. For example, the trustee could be given discretion to pay for expenses related to Andrew’s support and education. The trust terms could also specify an age at which the trustee would transfer any remaining funds to Andrew, such as when Andrew reaches age 30. This would delay final distribution of funds until a time when Andrew might be in a better position to make responsible financial decisions.
Even if the HNW client doesn’t have any concerns about the ability of a beneficiary to be financially responsible, leaving assets in trust can help to protect inheritances from being eroded unnecessarily by claims of third parties.
When your beneficiaries inherit assets directly, they become subject to certain legal claims against the beneficiary. For example, if assets are left to a beneficiary who later goes into bankruptcy, the inherited assets may become subject to creditor claims. Also, if a beneficiary gets divorced, inherited assets may be subject to claims by the beneficiary’s former spouse.
Leaving assets in trust for beneficiaries can sometimes protect the beneficiaries’ inherited assets from these claims. Of course, this area is complex and the rules vary by jurisdiction, so be sure to get professional legal advice when pursuing strategies in this area.
Who should be the trustee?
With trusts finding their way into more and more estate plans, many people end up simply naming a family member or friend as a trustee. There are, however, some reasons to consider naming a professional trustee instead.
Often a family member is chosen as trustee under the assumption that this is a less costly option than using a professional trustee; however, this is not necessarily the case. Any trustee, including a friend or family member, is likely entitled to receive compensation for providing trust services. Each jurisdiction has guidelines for the amount of compensation that can be charged by a trustee.
Let’s look at an example to illustrate why the choice of a trustee is so important. Suppose Robert wants to leave an inheritance for his daughter, Rachel, who is currently eight years old. Robert is divorced and doesn’t want his ex-wife (who has custody of Rachel) to manage Rachel’s inheritance if he were to pass away while Rachel is still a minor.
Robert is considering creating a trust for Rachel under his will and naming his sister, Karen, as trustee.
Being a trustee can be a complex and time-consuming job. Karen would need to make many decisions, such as choosing appropriate investments and deciding on the amount and timing of distributions to Rachel. Physical custody and management of the assets would also be Karen’s responsibility, and she would need to undertake tasks such as completing paperwork to open accounts, buying and selling assets, and making ongoing payments and withdrawals. Karen must also ensure that proper accounting records are maintained for all trust financial activities and annual tax returns are filed for the trust.
Would Karen have the necessary skills and knowledge to perform these tasks? In truth, Karen may not want to perform this time-consuming role, particularly since it could last for 10 years (until Rachel reaches the age of majority) or even longer. During that time, Karen would need to communicate with Robert’s ex-wife, which could also be uncomfortable for Karen.
And what if Karen were to become incapacitated or die during the trust term? If Karen were unwilling or unable to perform the trustee role, then the court would need to appoint a new trustee if Robert had not named an alternate trustee in his will.
Choosing to involve a corporate trustee can help to prevent these dilemmas. Unlike a living person, a corporation endures for an indefinite period, so it can continue to serve as trustee for as long as one is needed. A trust company often has years of experience in acting as trustee for numerous clients and can help to ensure that trust administration is carried out efficiently, without burdening family members.
A professional trust company can be appointed as trustee of a testamentary trust, either alone or as a co-trustee along with another individual. It can also be hired as an agent, in which case the executor/trustee would maintain decision-making authority but could delegate the burden of handling the administrative duties to the trust company.
Jamie Golombek, CA, CPA, is the managing director of tax and estate planning with CIBC Private Wealth Management in Toronto. An expert on taxation, he writes Tax Expert, a weekly column in the National Post and appears regularly on various Canadian media. His remarks above are excerpts from Golombek’s presentation on “Tax and Estate Planning for High-Net-Worth Clients” at the MDRT 2014 annual meeting in Toronto.