You have probably heard of the concept of trusts. Sometimes they are referred to as family trusts, private trusts or corporate trusts. You have probably also heard of offshore trusts or international trusts. Generally there is a mystique about trusts, and a lot of unnecessary confusion about what they are, and when they should be used. Many people think trusts are just for the rich or for people with complex financial and investment affairs. That is not the case at all.
Trusts are a very common way of dealing with a range of personal choice, family or business options. After you have some additional insights into trusts and their uses, you may come to the conclusion that one or a number of trust options could meet your financial, estate and tax-planning needs.
Basically, a trust is a legal structure whereby a trustee deals with property or assets (such as cash, stocks, or bonds) over which the trustee has control, for the benefit of persons called beneficiaries. In some cases, the trustee could also be one of the beneficiaries. Although the trustee has legal title to the trust property, beneficial ownership rests with the beneficiaries.
There are two main types of trusts: living trusts and testamentary trusts. A living trust (also referred to as an inter-vivos trust) is established while an individual is alive, and comes into effect once the trust agreement is signed and the trust is funded. A testamentary trust is created under the terms of a person’s will and is therefore activated on the person’s death. It is funded from the proceeds of the deceased’s estate. These trusts serve different purposes and objectives and can have different tax implications.
Here is an overview of how trusts can be used.
LIVING TRUSTS
There are a number of creative ways that you can use a living trust. For example:
Family trust
In this situation, you could have some of the shares in a company owned by a spouse held in the name of a family trust. Say the shares are non-voting. This family trust could be comprised of the other spouse and the children. If it is structured in the right way, the monies going to the trust by means of dividends could then be distributed through dividends to each of the members of the trust. If the members of the trust were not receiving any other income, they could each take out $23,756 of dividend income each year, tax-free. If the family members were minors, the attribution rule would not apply, if the trust was formed properly. That is, the normal Revenue Canada policy of attributing income for a minor to the parents for tax purposes would not be applicable.
Estate freeze
If you own a company or have other assets that have shown a consistent pattern of growth over a period of time, and you anticipate that the growth will continue, an estate freeze using a corporation set up for that purpose, along with a living trust agreement, could be an effective strategy to consider. The practical effect of this technique is to freeze the value of the assets in your name as of the effective date of the agreement. All future capital gains will accrue to the benefit of your beneficiaries.
Providing for family members with special needs
If you have family members who are not able to handle their own affairs (due to mental or physical incapacity, for example), a living trust could be established to provide for their financial needs. On the recipient’s death, the rest of the funds in the trust could be left for some other party, such as a charity.
Giving to charity
You may wish to set up what is referred to as a “charitable remainder trust”, in which you assist your charity of choice by means of donating a residual interest in a trust to the charity. The most common method is for the capital in the trust to go to the charity on your death, and in the meantime, you receive the income earned from the assets in the trust. It is possible that the trust be structured so that you receive a non-refundable tax credit when the trust is established, representing the projected fair market value of the residual interest, or the “remainder” (the capital available on your death). If the capital is not going to be eroded during your lifetime, it is easy to project the remainder.
There are many other uses of a living trust, including supporting your children, divorce settlements, looking after your financial needs in your retirement, avoiding probate and ensuring the confidentiality of your wishes.
TESTAMENTARY TRUSTS
There are a range of uses for this type of trust. As mentioned earlier, these trusts are a part of your will. Common options include the spousal trust, trusts set up for minor children or grandchildren, providing for family members with special needs, discretionary trusts for children who are spendthrifts and gifts for charities. Here are some examples.
Spousal trust
In this situation, you set up a trust to provide income for your spouse throughout his or life, with the capital remaining at death going to the children or grandchildren. This type of trust is common when a spouse is ill or incapacitated or lacks financial expertise. A variation of this format, if there are no children or grandchildren, is to leave the capital to charity on the death of the surviving spouse.
