A testamentary trust is a type of trust created by a person's last will and testament or another disposition that takes effect upon the death of the settlor, also sometimes referred to as the grantor or trustor. Unlike an inter vivos trust that takes effect during the lifetime of the settlor, a testamentary trust does not take effect until after the settlor has died. An example of an inter vivos trust commonly used in estate planning is a living trust.
How Does a Testamentary Trust Work?
How a testamentary trust will operate varies depending on many factors, including the provisions set forth in the will and trust, the amount of property involved, the state laws that govern the estate and trust, the type of heirs and beneficiaries, etc. Although every testamentary trust is unique, the following is a basic overview of how testamentary trusts are often structured:1. The testator names a trustee and a successor trustee of the trust. In many wills, the testator names the same person as executor and trustee.2. The provisions of the trust direct the trustee to make payments to beneficiaries in installments, increments, a lump sum or some other manner.3. If there is a concern about a beneficiary's ability to manage financial matters or a desire to provide protection from creditors, a
spendthrift trust provision may be included in the document.4. A contingent heir or beneficiary may be named to inherit any balance remaining in the trust if the primary beneficiary dies before the trust is closed.5. The trust will terminate or end after a period of time or date specified in the document.
Issues Related to Testamentary Trusts
When reviewing legal issues involving testamentary trusts, it is important to be aware of related estate planning issues that may need to be addressed, either for tax purposes, state law requirements or other goals associated with the estate plan.The following issues may also need to be considered when drafting a testamentary trust:1. Life Insurance Trusts. Along with its benefits, life insurance presents many complex tax issues. In addition, when making an estate plan, it is important to be aware of the impact of naming different types of beneficiaries on a life insurance policy. Before making any type of trust or finalizing life insurance beneficiary designations, consult an attorney.2. Medicaid Planning. If an heir or beneficiary may need to qualify for Medicaid or other government benefits, the impact of an inheritance on eligibility for benefits should be considered when drafting a will or trust.3.
Children. If minor children may inherit from the estate, a testamentary trust may be structured to appoint a trustee to manage the child's inheritance until the child attains a specified age.4. Spouses and Partners. If you are leaving all or part of your estate to a spouse or partner, consult a CPA or other tax professional about estate planning strategies to minimize the tax burden. Also, if you want to use a testamentary trust to provide your spouse with a lifetime income, but have the principal balance of your estate pass to your children or other heirs, consult an estate planning attorney about the best way to structure this arrangement.
Advantages of Testamentary Trusts
Depending on your estate planning objectives, there are several reasons you may decide to add a testamentary trust to your will. If you have minor children, a testamentary trust would allow you to exercise some control over the timing and amount of distributions to your children or other heirs. A testamentary trust also allows you to select a trustee to manage estate assets on behalf of beneficiaries. Avoiding complications in a beneficiary's eligibility for Medicaid or other government benefits is another reason a testamentary trust may be used instead of a
lump sum inheritance.If you are leaving an inheritance to your spouse, children, grandchildren or other beneficiaries for whom taxes may be a concern, discuss the benefits of a testamentary trust with an estate planning lawyer. One of the most common reasons for using a testamentary trust instead of other types of trusts is to obtain a more favorable tax outcome when the estate is distributed.Another advantage of testamentary trusts is the person making the trust does not have to administer the trust or serve as the initial trustee. Because a testamentary trust is not established until the death of the testator, there is no need to transfer title to property to the trustee during the life of the settlor, which is a step that is required when you make a living trust. Many people like the idea of having a trust, but have difficulty complying with the requirement to transfer title to the trust and hold title correctly as they buy and sell assets from time to time. If you are interested in making a trust but want to defer the responsibilities of
trust administration until after you pass, ask your attorney whether this type of trust should be used in your estate plan.
Disadvantages of Testamentary Trusts
One disadvantage of using a testamentary trust in your estate plan is increased legal fees and expenses. Due to the involvement of the probate court in testamentary trusts, it may cost more to settle the estate than if you set up a different type of estate planning trust.If you are interested in having your estate administered without any oversight from the courts, and maintaining privacy regarding your finances and any property you pass on to your heirs, you may want to explore other types of trusts, including a living trust. To compare testamentary trusts with living trusts, go to benefits of living trusts.If you have a simple estate, plan to leave everything to one adult beneficiary in a lump sum, and there are no limitations you want to place on estate distributions, you may determine you do not want the added complexity of a testamentary trust. Although a testamentary trust offers advantages that help some individuals achieve their estate planning goals, in other estates a testamentary trust is not necessary and could result in additional expenses, time delays, etc.There may be other advantages and disadvantages of testamentary trusts not outlined above. Consult a lawyer familiar with your unique circumstances for advice on which type of trust is best suited to your needs. See finding an attorney.
How to Make a Testamentary Trust
If you are interested in using a testamentary trust in your estate plan, the first step is to get more information. There are many different types of estate planning trusts. For a comparison, see
Other Types of Trusts. You may find another form of trust that is a better alternative for your specific objectives. Consult an estate planning lawyer for advice on the pros and cons of using a testamentary trust before making a final decision.After you have compared different options for passing your property through a trust, the next step is preparing your estate planning documents, including a will. Go to types of wills for more details. To add a testamentary trust to your estate plan, you will need a lawyer to draft the necessary documents. A testamentary trust is created by transferring property to a trustee by will or other disposition effective upon the death of the settlor of the trust.Do not attempt to write your own will or testamentary trust. Common drafting mistakes and errors in execution often result in substantial legal costs which can consume an entire estate. Ask a qualified attorney to prepare your estate plan and arrange the proper execution of all documents in accordance with applicable state law requirements.
Note: If you have questions about the terms used in this article, such as the term settlor, also sometimes referred to as grantor or trustor, go to our
Glossary of Estate Planning, Trust, and Probate Terms for an introduction to estate planning.This article was published on October 15, 2017.