If you have adult children, you should consider leaving an inheritance to them through a testamentary trust, rather than as a direct gift.
If you choose, your child can still control ‘their’ testamentary trust (so it looks and feels like their money), but using the testamentary trust will give them the following advantages:
- The inheritance you leave your child is significantly less likely to be exposed to any family law risks if your child separates or divorces.
- If your child is in a high risk occupation (e.g. carrying on a business, a director, or at risk of negligence – hello engineers, lawyers, doctors, accountants, health professionals etc!), then the inheritance you leave your child could be exposed to those risks if you do not use a testamentary trust. A testamentary trust protects the inheritance from any bankruptcy claims.
- The tax treatment could amplify the impact of the inheritance, because they can access tax free income to pay for their children’s (i.e. your grandchildren’s) living and education expenses.
For example: If you leave an inheritance to your child who has 3 minor children of their own, then roughly the first $66,000 of income earned from investing the inheritance through the trust could be tax free and used to pay for your grandchildren’s living and education expenses.
If you didn’t have a trust, then your child would need to pay tax on that income at their marginal tax rate (in addition to any other income they may earn from other sources) and then pay for those living and education expenses with after tax income. These tax savings continue generation upon generation so that your grandchildren can ultimately then apply tax free amounts to their children and so on.