The 50 Biggest Estate Planning Mistakes...and How to Avoid Them

trusts for minor children

In a trust for minor children, ideally the will balances specific directions about what the money is to be used for while still allowing the trustee some flexibility to deal with new issues that arise. The younger your children are when you prepare your will, the more flexibility you should build into the terms. Children’s needs at an age of complete dependency will differ from their needs as they grow older. In planning for the unlikely possibility of dying when your children are young, an important principle to keep in mind is that your children’s needs and interests could develop in many different and unexpected ways as they grow up, and you want the trust to be flexible enough to address these developments.

Having said that, a will is a formal legal document and it is not the place for parents to set out each and every factor that the trustee of the children’s trust should consider. Your lawyer can provide suggested wording to allow your will to reflect your overall perspective on appropriate distributions from your children’s trust while still providing the legal clarity and certainty needed in a will.

In addition, you could consider preparing an informal document which, although not binding on your trustee, will provide your trustee with more details of your thoughts and perspectives on how to use the trust for the benefit of your children. Just be sure to prepare any such document with your lawyer’s guidance and before your will is finalized; your informal musings need to be aligned with the crisp language of the will or you run the risk of your intentions being unclear.

Trusts in wills for minor children commonly direct the trustee to invest a certain lump sum of money comprising the trust and called the capital of the trust. Any interest earned on the lump sum is called the income of the trust. Income that is not spent right away is often added to the original lump sum and becomes capital. Distributions of funds from the trust are either capital distributions, as they are made from the capital of the trust, or income distributions, as they are made from the income of the trust.

Ultimately your children will grow up and receive the capital of the trust, so in addition to crafting the terms of how they are cared for while they are little, you need to contemplate the long-term distribution. A common approach to children receiving the capital distributions is where a specified portion is paid out at each of several stages such as at ages 21, 25 and 30. As well, the child may receive part or all of the income from the trust between those ages and additional lump sum payments in the exercise of the trustee’s discretion, for example, for university tuition.

One approach that Jean likes is the income being paid out in its entirety at a certain age, such as at the age of majority, as a trial run on cash management. Your child may make some mistakes when that income starts to be paid, but squandering some income at age 18 or 19 is likely preferable to blowing the first capital distribution at the age of 21 or 25. As we have said throughout the book, there isn’t a right answer to any of these issues because everyone is different when it comes to financial matters. There are the 10-year-old lemonade-stand owners who mysteriously accumulate several hundred dollars over a summer as well as the middle-aged high income earner with a lifestyle far exceeding his or her income. One size does not fit all in money matters or in planning wills.

spousal trusts

In Mistake #37, we discussed spousal trusts, sometimes used in the wills of people in second or subsequent marriages as a way to preserve assets for the children of earlier relationships. We discussed there the importance of thinking carefully about who should be the trustee in a spousal trust, but it is also essential to spend time on the terms for the distribution of income and capital to the spouse while he or she is alive.

One important consideration is whether the trust terms support your desired tax goals. Just as leaving assets directly to a surviving spouse can be a very tax-favourable approach in will planning, so can giving assets to a trust for a spouse. However, the Income Tax Act sets out clear rules as to how a spousal trust needs to be drafted to qualify for the favourable tax treatment. It is a common mistake to accidentally create a “tainted” spousal trust, the result of a poorly drafted trust in a will not complying with the Income Tax Act. Accordingly, be sure that your tax objectives are known to and discussed with your drafting lawyer.

In addition to thinking about taxes, if the purpose of the trust is primarily to look after the spouse, then the trust in the will needs to be drafted in a way in which that is made clear. There is a principle in trust law called the “even hand rule,” which directs that in the administration of a trust, the trustee cannot favour one beneficiary over the other—unless the terms of the trust stipulate that one is to be favoured.

It is clearly important in setting up a spousal trust to review with your lawyer what your overall objectives are and how they can be achieved in the trust, keeping in mind the family dynamics, the expected size of your estate and the nature of the assets.

A good example of how the nature of the estate assets can impact a spousal trust involved a couple’s home designated as a heritage property. The husband survived the wife, receiving the entire interest in this home as well as a lifetime interest in the rest of his late wife’s estate. The terms of that spousal trust included the ability to encroach on the capital, which is really just a fancy way of saying that the capital could be used for ad hoc amounts as needed at the discretion of the trustee.

A challenging question arose for the trustee because the home had never been renovated and the renovation estimate for bringing this heritage property up to standards was a daunting amount. The terms of the trust were not clear on whether this type of encroachment on the trust’s capital was what the wife had in mind, even though, with some advance thinking, repairs to a hundred-year-old home should have been expected and contemplated in the drafting of the will.

In this particular case, the deceased wife’s children did not object to the payment of the renovations from the spousal trust, the balance of which would eventually go to them, with the renovated home going to their stepsiblings. However, we can imagine other situations in which this type of encroachment would have been vehemently opposed.

In summary, when thinking about the terms of trusts in your will, you really need to put yourself into the situation as if it will happen tomorrow. Discuss the possible outcomes with your advisors, within the context of what you are trying to achieve.

points to take away

• One of the challenges with setting up trusts in your will is that none of us can rule from the grave and it is foolish to even try. However, it is important to think about your objectives in setting up the trust and also the outcomes that you want to achieve and want to avoid.

• You may want to consider ancillary informal documents that affirm the trusts set up in your will while adding further “flavour” to your intentions as a reference point for your trustee. It is imperative that any such documents be drawn up with your lawyer’s advice and assistance to ensure that these documents do not contradict or confuse the intentions set out in your will.

• Balancing clarity with flexibility will require frank, in-depth discussions with your lawyer. If your will includes trusts for minor children, the terms of the trust need to cover both how your children’s trust will be used for their benefit while they are young and also the ultimate distribution of capital to your children.

• Communicating the overall contents of your will to those who are affected is usually wise. This advice is especially pertinent if your will involves a trust for your spouse, the remaining capital of which will go to children from another marriage, or a trust for any other adult (such as a spendthrift child) who may question why their inheritance is being held in trust at all.