Why testamentary trusts just became the new tax superstars
The exemption for testamentary trusts means it is still possible to get significant tax benefits and robust asset protection in one structure.
Demand for an already popular wealth holding structure is set to surge after the government opened a loophole in its own plan to reduce tax minimisation by family trusts.
Following a fierce backlash from estate planning lawyers, Prime Minister Anthony Albanese permanently exempted discretionary testamentary trusts from the 30 per cent minimum tax rate on all other types of discretionary trusts that will start in 2028.
It’s easy to see how demand might spike. Testamentary trusts will not only keep their ability to protect beneficiaries from relationship breakdowns, creditors, and bankruptcy – which they share with other trusts – they will also be free to distribute at least $18,200 a year tax-free to beneficiaries aged under 18 as part of income-splitting arrangements.
Even before the concession, testamentary trusts had been growing at a rate nine times faster than conventional discretionary family trusts.
“[The conditions for] testamentary trusts are going to be very favourable moving forward, both for asset protection and for minimising tax where applicable,” says Chris Youssef, director at Melbourne financial planner Wealth Investors.
What are testamentary trusts?
Testamentary trusts are created via a will and only come into force upon the will-maker’s death. They are different to other types of discretionary trusts in that they retain the unique legal right for distributions to minors to be taxed at adult rates. This is important because it avoids the severe penalty tax for distributions of more than $416 made to minor beneficiaries in other types of discretionary trusts.
Testamentary trusts have limitations, too. Unlike other discretionary trusts, no additional assets can be added after the testator’s death without forfeiting the tax concessions.
So while the assets in the trust can grow in value, and trustees can buy, sell and reinvest the inherited money, they are not as flexible as other discretionary trusts, making them more suitable for wealth preservation than creation.
When estate planning lawyers took their objections about the budget changes to Canberra, they emphasised the use of testamentary trusts as a vehicle to provide income to minors. This might occur if a parent dies and leaves behind young children, allowing a surviving spouse or guardian to use estate income to fund school fees and living costs.
Another key benefit is that minors are not given control of large sums of money. The testator can also specify conditions and rules for distributing assets, which is useful if the money is going to people with disabilities or addiction problems.
Interest in testamentary trusts was already growing
That may be true, but testamentary trusts, once the domain of the ultra-wealthy (the tax office didn’t even break them out as a category of trust until the 2022-23 financial year), have gone mainstream.
As the Society of Trust and Estate Practitioners says in its submission to a parliamentary inquiry into the budget changes, testamentary trusts have become routine inheritance planning vehicles.
“These are widely used to preserve family assets, facilitate intergenerational wealth transfer and provide flexibility to respond to future circumstances that cannot be anticipated when estate planning documents are prepared,” it says.
The cost to set up a testamentary trust typically ranges between $2500 and $5500.
The number of new discretionary testamentary trusts grew by 29 per cent from 10,516 to 13,608 in the year to June 2024 (the most recent year data is available).
That’s nine times faster than 3.6 per cent growth in conventional discretionary trusts – what lawyers call inter vivos trusts (a Latin term meaning “between the living”).
Admittedly, the sheer numbers of other discretionary trusts are much higher at 848,561, but that doesn’t show the full story because there is no data kept on how many testamentary trusts are already written into wills. Anecdotally, there could be hundreds of thousands of them.
The budget backdown creates “a distortion between two types of trusts” says Lachlan Einsiedel, tax adviser at Suzanne Lyttleton Lawyers. “If you set one up during your lifetime you’re subject to punitive tax effects, but if you set it up as a testamentary trust on your deathbed you end up with all these tax benefits.”
Who should set up a testamentary trust?
Testamentary trusts are recommended for anybody with an estate worth $500,000, according to Hall & Wilcox lawyer William Moore.
“The vast majority of [our clients] would have testamentary trusts in their wills,” Moore says.
Lidia Vicca, of Vicca Law, says her clients who set up testamentary trusts are split roughly 50-50 between parents with young children and retirees.
Financial adviser Dwayne Fernandes agrees that the loophole makes testamentary trusts more attractive than inter vivos trusts.
“If you’ve got assets in a discretionary inter vivosfamily trust at the moment and you wanted to think about it from an estate planning context, you would want to maximise the assets in your estate rather than in the inter vivos trust,” Fernandes says.
“You would structure your estate planning in that way, so that more of your assets were going through your estate into the testamentary trust rather than staying in the discretionary family trust environment,” he says.
The asset protection benefits of discretionary trusts stem from the fact that beneficiaries of trusts don’t own the assets in them.
They are only entitled to a benefit from them at the discretion of the trust’s trustee. That means it is hard for a creditor or anyone else to put a value on that benefit, making any legal case that seeks to get a hold of those assets difficult to litigate.
“The fundamental reason people go with testamentary discretionary trust is for asset protection for their families, not to dodge tax,” says Vicca. “It’s really just to protect it for their children.”
Due to the low-income tax offset, the effective tax-free threshold for an individual is $22,550, says estate planning specialist Tara Lucke. But trustees are free to distribute as much income as they like to beneficiaries, who will pay tax at their marginal rate on any money given to them.
If the exemption hadn’t been given, a minor who received $22,550 from a testamentary trust created after budget night would have had $6765 in tax (30 per cent) deducted from their distribution.
Political sensitivities force backdown
Albanese appears to have been particularly sensitive to the death tax claim and in his official statement announcing the exemption for testamentary trusts, he said: “We have been clear that there is no tax on inheritances or deceased estates, but we are taking this step to put this beyond doubt.”
Lucke welcomes the exemption. “They are a really powerful vehicle,” she says.
“You can actually have the income generated from an inheritance being used tax-effectively to benefit not only the surviving spouse but the minor children.
“They are paying less tax overall, but only on the income earned from an inheritance. Those types of families do probably need a bit of concessional tax treatment when they’ve lost a breadwinner and are going through the worst time of their lives,” says Lucke.
Importantly, such trusts established after May 12 will not be able to distribute to corporate beneficiaries – also known as bucket companies – or other trusts if they want to avoid the 30 per cent minimum tax. They will be limited to distributing benefits to actual people (testamentary trusts that came into effect before budget night are exempt from the 30 per cent minimum tax already).
However, the money must be paid to the beneficiary and not to someone else to qualify for that concession. If the tax office thinks that the economic benefit of a distribution to a minor actually went to a parent it can classify this as tax avoidance and tax it at 47 per cent.
Will the ‘loophole’ last?
But, just as Albanese quickly granted the exemption to testamentary trusts after the backlash, he or some other prime minister could just as easily take it away.
Ben Walsh, principal consultant at financial advice researcher Wealthvantage, says the government will change policy again if there is a big increase in the use of discretionary testamentary trusts.
“You’d be brave to sail down that road, in the sense that the government will probably, in a year’s time, crack down on that,” he says.
And he argues that there would be some logic in the government doing so because the asset protection qualities of trusts are effectively a benefit that is not open to people that don’t have trusts.
“Other people don’t get to take advantage of that, and there’s no premium you’re paying for that asset protection. Perhaps society’s reached the point where it’s saying: Yes, you have to pay for certain advantages.”
Einsiedel even argues that the policy backdown could also create an incentive for people to give their assets to their elderly parents with the aim of inheriting them via a testamentary trust.
“For family groups the planning could result in a situation where people close to death effectively have their wealth built up, so that they can form these testamentary trusts under their will,” he says.
“There will be cases where I can see that happening.”
For Professor Richard Holden, the vice chancellor professor at the University of NSW, the loophole was created because the government didn’t consult widely enough before the budget.
If Labor had consulted more widely it might have been able to find a way to exempt minors from the 30 per cent tax without granting a blanket exemption to testamentary trusts.
“If you do things right the first time, you can get them to not be too over-inclusive or too under-inclusive. But if you rush it and get it wrong, and then have to make a political backdown because you look unfeeling to orphans, then you get a quick fix that might open the door to other unintended consequences.”
How Government ‘Affordability’ Turns an $18 Antibiotic Into $2,500. “Nothing makes anything less affordable than a government promise to make something more affordable, and a Texas pharmacist revealed this week how an $18 generic antibiotic gets listed for $2,500. But from there, things get so seriously stupid that you just know there must be a government program involved.”
“I do not think anyone over the age of 23, even if you are a teacher, graduate student, or professor, understands the extent to which AI usage affects every appendage of the university system” — Owen Yingling, a philosophy student at Chicago, on the AI-“zombification” of universities
- Nāgārjuna by Jan Christoph Westerhoff.
- Disability and Justice by Jessica Begon, Daniel Putnam, David Wasserman, Jeffrey Blustein, and Adrienne Asch.
- Heinrich Rickert by Andrea Staiti and Luca Oliva.
- Evolution by Roberta L. Millstein.
- Questions by Charles Cross and Floris Roelofsen.
Philosophy Podcasts and Other Media
- Philosophy Podcast Hub (via Jason Chen)
Recently Published Open Access Philosophy Books
- Paradoxical Ethics by Saul Smilansky (Oxford, 2026).
Book Reviews*
- Prototipos: Procesos de Investigación Artística sobre Tecnología y Vida by Sebastián Lomelí is reviewed by Sofía Falomir Sánchez at Notre Dame Philosophical Reviews.
- Concepts at the Interface by Nicholas Shea is reviewed by Edouard Machery at Notre Dame Philosophical Reviews.