Why Use a Testamentary Trust

A testamentary trust exists to solve a specific problem: an outright inheritance is not always the safest or most tax-effective way to benefit someone.

Common reasons families use one include:

• Protecting a beneficiary who cannot manage money well, whether due to age, vulnerability to undue influence, or a history of poor financial decisions
• Shielding an inheritance from a beneficiary’s relationship breakdown, since trust assets are generally harder to draw into family law property proceedings than assets held outright
• Protecting an inheritance from a beneficiary’s creditors, particularly relevant where a beneficiary runs a business or has existing financial difficulties
• Reducing tax on income distributed to children, since income from a testamentary trust can be taxed very differently to income from other trust structures
• Providing for a beneficiary with a disability, through a specific type of testamentary trust with its own government-recognised status

How a Testamentary Trust Actually Works

The trust is written into the will itself, but it has no legal effect until the will-maker dies and the assets pass into it.

Once established, a trustee holds and manages the trust assets according to the terms set out in the will. This trustee may be a family member, a professional trustee such as a solicitor or trustee company, or a combination acting jointly.

Depending on how the will is drafted, beneficiaries might receive income at the trustee’s discretion, receive set amounts at specified ages, or have their entitlement structured around specific milestones such as completing education or reaching financial maturity.

This flexibility is the main advantage over a simple outright gift, but it also means the will needs to be drafted carefully to actually achieve what the will-maker intends.

The Tax Advantage for Minor Beneficiaries

One of the most significant reasons families use testamentary trusts is the tax treatment available for beneficiaries under 18.

Ordinarily, income distributed to a minor from a trust is taxed at penalty rates designed to discourage income splitting. Under section 102AG of the Income Tax Assessment Act 1936 (Cth), income a minor receives from a testamentary trust can instead qualify as excepted trust income, taxed at ordinary adult marginal rates.

According to the Australian Taxation Office, this exception covers income from a trust estate arising under a will, codicil, or intestacy. It does not extend to income from assets unrelated to the deceased estate.

Since 1 July 2019, an additional rule under section 102AG(2AA) requires the concessional treatment to be traced back to assets that genuinely came from the deceased estate. This closed a previous practice of injecting unrelated family trust assets into a testamentary trust purely to access the concession.

More: What Is the Statutory Legacy in NSW and How Much Does a Spouse Get?

Special Disability Trusts: A Distinct Category

A Special Disability Trust is not simply a testamentary trust with a different name. It is a specific, government-recognised structure with its own eligibility rules and financial concessions.

Who Qualifies as the Principal Beneficiary

A Special Disability Trust can only have one principal beneficiary. According to Services Australia, that person must meet the legal definition of severe disability.

For a beneficiary aged 16 or over, this generally means their level of impairment would qualify them for the Disability Support Pension, or they are already receiving the equivalent DVA payment.

It also requires a disability that would qualify a sole carer for Carer Payment or Carer Allowance, combined with an inability to work more than seven hours a week in the open labour market.

What the Trust Can Be Used For

The funds must be used for the principal beneficiary’s reasonable care and accommodation needs, not general purposes. According to the Social Security Guide, a person does not need to already be receiving an income support payment for a Special Disability Trust to be established for them, provided they otherwise meet the definition of severe disability.

Families who establish one of these trusts can access a gifting concession of up to $500,000 combined from eligible family members, along with an assets test exemption for the beneficiary.

Both concessions can materially affect the family’s broader pension and benefit planning, since assets held in a properly structured Special Disability Trust generally sit outside the beneficiary’s own social security assets and income tests, up to the relevant limits.

This makes the structure particularly valuable for families wanting to provide for long-term care without jeopardising access to the Disability Support Pension.

Structuring Flexibility: Age-Based and Protective Trusts

Not every testamentary trust needs to be a lifetime structure. Many are designed to end at a specific point.

A common approach ties a beneficiary’s full entitlement to reaching a particular age, such as 25 or 30, while granting the trustee discretion over distributions before then. Others are structured as fully protective trusts intended to continue indefinitely, particularly where a beneficiary’s vulnerability is unlikely to resolve with time.

More: What Is a Deed of Family Arrangement in NSW and How Does It Resolve Estate Disputes?

Trustee Duties and Powers

Whoever is appointed trustee takes on real legal obligations, not just administrative bookkeeping. Understanding these duties matters when choosing who to appoint.

A trustee must act in the best interests of the beneficiaries, invest trust assets prudently, and keep proper records of income, distributions, and expenses. The Trustee Act 1925 (NSW) sets out the general statutory framework for trustee powers in NSW, including default investment powers where a will does not specify its own investment clause.

Wills establishing a testamentary trust should generally include specific powers for the trustee beyond the statutory default. This includes the power to lend to a beneficiary, invest in a wider range of assets, or make unequal distributions among beneficiaries at the trustee’s discretion.

A trust that relies only on the general law default powers can be more restrictive than most families intend, which is why a generic will template rarely produces a genuinely effective trust structure.

Testamentary Trusts vs a Simple Gift in a Will

Choosing between a testamentary trust and an outright gift comes down to weighing flexibility and protection against complexity and cost.

A straightforward gift is simpler to administer and involves no ongoing trustee obligations once distributed. A testamentary trust requires ongoing administration, its own tax file number, and annual trust tax returns, but it provides asset protection and tax-planning benefits that a straight gift cannot match.

The right choice depends on the size of the estate, the number and circumstances of the beneficiaries, and whether the administrative costs of running a trust are justified by the protection or tax outcome it provides. Couples sometimes pair a testamentary trust with mutual wills so the surviving partner cannot later change the agreed arrangement.

How Empower Probate Lawyers Can Help

Getting a testamentary trust wrong in the drafting stage, whether through vague trustee powers, unclear beneficiary classes, or missing the conditions needed for tax concessions, can undo much of the benefit the structure was meant to provide.

We advise clients on succession planning that incorporates testamentary trusts correctly, including for blended families where protecting notional estate exposure matters alongside tax planning. We also assist executors administering a deceased estate where the will already contains a testamentary trust structure.

Call 1300 481 161 for an initial consultation. Specialist advice. Free initial consultation. Deferred fee arrangements are available in eligible cases.

Frequently Asked Questions

Does every will need a testamentary trust?

No. Most straightforward estates are better served by a simple gift. Testamentary trusts suit situations involving minor beneficiaries, vulnerable beneficiaries, asset-protection concerns, or beneficiaries with disabilities.

Can a testamentary trust reduce tax for adult beneficiaries too?

The strongest tax advantage applies to minors through excepted trust income, but adult beneficiaries can still benefit from asset protection and flexible distribution structures, even without the same tax concession. Some families also use the trust to spread income across a beneficiary’s spouse or children in a tax-effective way, depending on how the trust deed is drafted.

What is the difference between a testamentary trust and a Special Disability Trust?

A testamentary trust is a general structure created by a will. A Special Disability Trust is a specific, government-recognised trust type with strict eligibility rules and financial concessions, available only to a beneficiary who meets the legal definition of severe disability.

Who can be a trustee of a testamentary trust?

Generally anyone the will-maker chooses to appoint, including a family member, a professional trustee, or a combination acting jointly. The right choice depends on the complexity of the trust and the vulnerability of the beneficiaries involved.

Does a testamentary trust need to last for the beneficiary’s whole life?

No. Many are drafted to end at a specific age or milestone, while others operate as ongoing protective trusts. The structure depends entirely on what the will-maker specifies.

Can assets be added to a testamentary trust after the will-maker’s death?

Generally, a testamentary trust is funded from the deceased’s estate. Adding unrelated assets later can affect whether income distributed to minor beneficiaries still qualifies for the excepted trust income tax treatment.

Who decides how much a beneficiary receives from a testamentary trust?

This depends entirely on how the will is drafted. A discretionary testamentary trust gives the trustee flexibility to decide how much each beneficiary receives and when, while a fixed entitlement trust sets specific amounts or percentages, leaving the trustee with far less discretion.

Does a Special Disability Trust need to be set up during the will-maker’s lifetime?

No. A Special Disability Trust can be established under a will and only come into effect after death, in the same way as any other testamentary trust, provided the principal beneficiary meets the eligibility criteria at the relevant time.