Structuring testamentary distributions
When advising clients on estate planning, one of the most critical decisions is structuring how assets pass to a surviving spouse. Planning for the surviving spouse is one of the three common planning scenarios, along with planning for descendants, and for the disaster scenario—where there is neither spouse nor descendants.
The strategy chosen in this scenario affects asset control, tax implications, and ultimate distribution to the next generation. The following three primary approaches balance the competing interests of simplicity, control, and asset protection.
Outright distribution to the surviving spouse
A straightforward option is an absolute gift of all assets to the surviving spouse. This approach provides the survivor with full control, avoiding ongoing administration and compliance costs. However, it carries inherent risks:
Testamentary Freedom of the Surviving Spouse: The surviving spouse has complete discretion to distribute inherited assets. This introduces the possibility that assets could ultimately pass to individuals outside the testator’s intended beneficiaries—particularly in blended family scenarios where the surviving spouse may later remarry or update their will.
Lack of Protection for Ultimate Beneficiaries: There are no mechanisms to ensure that children or other heirs receive any portion of the estate. If the surviving spouse exhausts the inheritance or redirects it to new beneficiaries, the original testator’s intended succession plan may be undermined.
Simplicity vs. Exposure: While administratively straightforward, an outright distribution does not protect against creditor claims, remarriage, or spendthrift tendencies of the surviving spouse.
For clients who prioritize the autonomy of the surviving spouse and want to minimize complexity, this may be the most appropriate structure. However, for those concerned about long-term asset control, a spousal trust should be considered.
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Spousal trust: retaining control while providing for the survivor
A spousal trust can be structured to provide for the surviving spouse while ensuring assets ultimately pass to designated beneficiaries. This approach is particularly effective in preserving wealth within family lines and mitigating risks associated with remarriage, creditors, and beneficiary disputes.
Key structural elements include:
Flexibility in distributions:
— Income distributions to the spouse are mandatory to qualify for the tax deferral benefits under subsection 70(6) of the Income Tax Act (Canada).
— Principal distributions can be discretionary, limited, or contingent on predefined conditions (e.g., medical expenses, depletion of personal assets).
Control via trusteeship: The testator selects trustees who administer the trust, manage investments, and approve distributions. This ensures adherence to the original estate plan while allowing adaptability to the spouse’s needs.
Protection against unintended beneficiaries: The ultimate beneficiaries—typically children—do not have access to the trust while the spouse is alive. This prevents the surviving spouse from altering the estate plan and ensures assets pass as originally intended upon the spouse’s death.
Conditions on Principal Access: To safeguard the estate, principal withdrawals can be:
— Unlimited (full discretion of the trustee);
— Limited (capped annually or over a lifetime); or
— Event-based (restricted upon remarriage or cohabitation, activated if the spouse depletes personal assets).
Dual trust planning: In some cases, estate assets can be allocated between a spousal trust and a family trust. This allows the spouse to receive income and controlled distributions while certain assets—such as business interests or capital growth assets—are directed into a separate trust for children.
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Hybrid approach: immediate distribution to children, balance to spouse
For clients who want to ensure children receive a portion of the estate while still providing for the surviving spouse, a hybrid structure may be appropriate:
- A specific amount or asset is carved out for children at the outset, either as an outright gift or within a separate trust.
- The balance of the estate passes to the surviving spouse absolutely.
Advantages of this approach include:
- Immediate security for children: Guarantees that at least a portion of the estate passes to the next generation, irrespective of any future decisions by the surviving spouse.
- Avoids the complexity of a full spousal trust: By structuring the children’s inheritance as a direct gift (often through life insurance proceeds), the need for ongoing trust administration is minimized.
- Spousal financial security remains intact: The surviving spouse retains autonomy over the majority of the estate while children receive an upfront inheritance.
This strategy is particularly useful for clients concerned about asset protection but who do not wish to impose long-term trust restrictions on the surviving spouse.
Choosing the right structure for your client
Each of these structures presents trade-offs between simplicity, tax efficiency, control, and asset protection. When advising clients:
- Consider family dynamics: Are there concerns about remarriage, blended families, or potential disputes among heirs?
- Assess financial security: Does the surviving spouse have sufficient independent wealth, or will they be reliant on the estate for ongoing support?
- Evaluate tax implications: Ensure the plan aligns with tax-deferral opportunities while balancing estate administration costs.
By tailoring testamentary distributions to the client’s specific concerns, lawyers can help preserve wealth across generations while ensuring that the surviving spouse is adequately provided for.
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