How you transfer your assets to your loved ones after you are gone is as important as how you built those assets during your lifetime. Spousal trusts created in your will can protect your spouse’s (and your children’s) eventual inheritance, while also ensuring your assets are distributed the way you had intended.
We all have hopes for the way our assets will benefit our spouses and children after we die. And although we have a number of choices in the way we structure these assets for transfer, certain strategies offer unique advantages. Take, for example, the benefits of a spousal trust in the case study featuring Dr. Lam.1
Effectively structuring asset transfer—Case study
Dr. Lam’s assets consisted of a small registered retirement income fund (RRIF) and a sizeable non-registered investment portfolio. His will was structured to leave all his assets to his wife. He then began to contemplate the transfer of his investment portfolio into a joint ownership with his wife to save on executor’s2 fees and probate tax.3 At that time, Dr. Lam’s wife was diagnosed with Alzheimer’s disease, but she was in early stages and still maintained her mental capacity.
After meeting with an Estate and Trust Advisor, Dr. Lam decided to change his will so that his estate would be held in trust for his wife during her lifetime. All of the income from the trust property would be paid to Mrs. Lam, with the capital in the trust paid to her if circumstances required that she access this capital. Upon Mrs. Lam’s death, the remaining property in the trust would be divided between their two sons.
The result: Timely spousal protection
Dr. Lam was reassured knowing that the assets accumulated over his lifetime would be protected, prudently managed and available for his wife in her time of need following his death.
Other benefits of spousal trusts
Let’s consider a scenario where Dr. Lam feared that Mrs. Lam could be taken advantage of or that her spending habits could deplete her inheritance. Similarly, there could be a situation where Mrs. Lam is Dr. Lam’s second wife, while his sons are from his first marriage.
In situations like these, a spousal trust would help Dr. Lam ensure that his wife would be cared for after his death, and would protect his estate for his sons. The ultimate disposition of his estate would be detailed by the terms of his will, not by Mrs. Lam’s actions during her lifetime or the provisions of her will after her death.
Things to consider when looking at a spousal trust
1. Choose your executors wisely
In the case of Dr. Lam, Mrs. Lam would have been a possible choice as Dr. Lam’s executor and trustee if she weren’t incapacitated. One or both of Dr. Lam’s sons could also be choices for executor and trustee, provided they have the time and knowledge, and are accessible. Conflicts could arise, however, as Mrs. Lam may want to maximize income from the trust property, while Dr. Lam’s sons may seek capital growth to increase their inheritances. Drafting the trust to ensure that Mrs. Lam’s needs come first would be a good starting point for Dr. Lam. An impartial third-party executor and trustee, such as MD Private Trust, would also be advisable to help ensure Dr. Lam’s wishes are met.
2. Property must pass under the will
If Dr. Lam had transferred his investment portfolio into joint ownership with his wife, those assets may not pass under his will and may not be subject to Dr. Lam’s wishes as outlined in the trust. Instead, these assets will pass, by right of survivorship, directly to Mrs. Lam. As for Dr. Lam’s RRIF proceeds, current income tax rules do not allow for a rollover into a spousal trust. In Dr. Lam’s case, his RRIF is relatively small. He may feel comfortable naming Mrs. Lam directly as his beneficiary. Alternatively, he may designate these assets to his estate so that the proceeds pass under his will and are included in the trust (albeit with potential tax and probate fee exposure).
It would be a good idea for Mrs. Lam to execute a power of attorney while she is still capable,4 so that her attorney can manage the RRIF should Mrs. Lam be unable to manage the proceeds herself, after Dr. Lam’s death, as a result of the progression of her illness.
3. Avoid triggering capital gains upon death
To qualify for the tax-deferred transfer into the trust, income tax rules require that all income from the spousal trust property be payable to the spouse and that no one except the surviving spouse may access the capital as long as the survivor is alive.
Even with a spousal trust, claims can be made against your estate. It’s important that you discuss all the options available for your estate plan with professionals, such as your MD Advisor and an Estate and Trust Advisor at MD Private Trust, when setting up a spousal trust.