Wealth Planning: Understanding Inter Vivos Trusts

When it comes to building and preserving wealth, there are a variety of tools available to help you manage your assets efficiently and plan for the future. One powerful strategy that is often underutilized or misunderstood is the use of Inter Vivos Trusts—also known as living trusts. These legal entities can be a cornerstone of a comprehensive wealth plan, especially for individuals seeking privacy, flexibility, and control over their assets during their lifetime and beyond.

In this blog, we’ll break down what Inter Vivos Trusts are, how they work, their benefits and drawbacks, and why they might be a valuable tool in your estate and wealth planning strategy.

What Is an Inter Vivos Trust?

An Inter Vivos Trust is a trust that is created and takes effect during the lifetime of the person establishing it, known as the settlor. Unlike a testamentary trust, which is established through a will and only comes into effect after death, an Inter Vivos Trust is active as soon as it is set up and funded.

There are two main types of Inter Vivos Trusts in Canada:

• Revocable Trusts: The settlor can alter or cancel the trust during their lifetime.
• Irrevocable Trusts: Once established, the settlor cannot change or revoke the trust.

In Canada, most Inter Vivos Trusts are irrevocable due to specific tax advantages and compliance with Canada Revenue Agency (CRA) regulations.

How Inter Vivos Trusts Work

To create an Inter Vivos Trust, the settlor transfers assets—such as real estate, investment accounts, or private business shares—into the trust. A trustee (which can be the settlor, a trusted individual, or a professional institution) manages these assets according to the terms of the trust agreement, for the benefit of the beneficiaries.

The trust is governed by a formal legal document called a trust deed, which outlines:

• The purpose of the trust
• The powers and responsibilities of the trustee
• How and when beneficiaries receive income or capital
• Duration and termination terms of the trust

The trust must file its own tax return and may be subject to income tax on retained earnings.

Key Benefits of Inter Vivos Trusts in Wealth Planning

1. Avoiding Probate

Assets held in an Inter Vivos Trust do not form part of the settlor's estate upon death. This means they can bypass the probate process, avoiding potential delays, fees, and public disclosure. Probate in many provinces can be time-consuming and costly—so using a trust to transfer assets can ensure smoother, quicker transitions to heirs.

2. Asset Protection and Control

A properly structured Inter Vivos Trust can help protect assets from creditors, lawsuits, or claims from disgruntled beneficiaries. Since the trust owns the assets—not the individual—they can be shielded from certain legal actions.

Additionally, the trust allows for detailed instructions on how assets should be distributed. For example, a settlor may specify that grandchildren receive funds only after reaching a certain age or completing post-secondary education.

3. Tax Planning Opportunities

Inter Vivos Trusts can help reduce or defer taxes under certain conditions. For instance, income generated within the trust can be distributed to beneficiaries in lower tax brackets, reducing overall family tax liability. This strategy—known as income splitting—can be particularly effective for high-net-worth individuals and families.

Trusts can also freeze the value of an estate, transferring future growth to beneficiaries and minimizing capital gains taxes upon death.

4. Supporting Family Members with Special Needs

Inter Vivos Trusts are commonly used to provide long-term financial support to dependents with disabilities. A Henson trust, for example, is a discretionary Inter Vivos Trust designed to ensure that a beneficiary with special needs can receive funds without affecting their eligibility for government assistance programs.

5. Privacy

Because trusts operate outside the will, they are not subject to public probate records. This makes them an attractive choice for individuals who value privacy and discretion in their wealth planning.

Drawbacks and Considerations

While Inter Vivos Trusts offer many advantages, they are not without complexities and limitations. Here are a few things to consider:

1. Costs and Complexity

Setting up an Inter Vivos Trust requires legal and sometimes tax advice, making it more expensive than drafting a standard will. There may also be ongoing administration costs, including fees for professional trustees and annual tax filings.

2. Tax Rates on Retained Income

Trusts in Canada are taxed at the highest marginal tax rate on income retained within the trust. Therefore, it’s generally more tax-efficient to allocate income to beneficiaries annually. However, this requires careful planning and may complicate annual tax filings.

3. Loss of Control (in Irrevocable Trusts)

In an irrevocable trust, once assets are transferred, the settlor cannot take them back or alter the terms. While this ensures asset protection and tax benefits, it also means the settlor loses direct control over those assets.

4. Attribution Rules

If the settlor or their spouse is a beneficiary, or if income is paid to minor children or grandchildren, attribution rulesmay apply. These rules could result in income being taxed in the hands of the settlor, rather than the trust or beneficiaries, potentially eliminating any tax benefit.

When Should You Consider an Inter Vivos Trust?

Inter Vivos Trusts can be a valuable part of your wealth plan under the following circumstances:

• You want to reduce probate fees and keep your estate private
• You have a blended family or complex distribution goals
• You own a business or investment portfolio and want to plan for succession
• You want to support a family member with special needs
• You are concerned about protecting assets from potential creditors
• You are seeking income-splitting strategies for tax efficiency
• You want to freeze your estate's value for future generations
  

The Role of a Financial Advisor

Inter Vivos Trusts are a sophisticated tool and require the collaboration of legal, tax, and financial professionals to implement correctly. At Dunbrook Associates, we take a holistic approach to wealth planning. Our advisors work closely with clients to assess their financial goals, analyze family dynamics, and determine whether a trust is appropriate for their circumstances.

We also collaborate with your lawyer and accountant to ensure your trust aligns with your estate plan, meets compliance standards, and achieves your intended outcomes. Whether you are in the early stages of wealth accumulation or actively planning your legacy, we can help guide you through every step.

Inter Vivos Trusts are not a one-size-fits-all solution—but in the right situation, they can provide powerful benefits, including asset protection, privacy, tax planning, and control over the distribution of your wealth.

If you are considering a trust as part of your wealth strategy, the team at Dunbrook Associates is here to help. Contact us today to schedule a consultation and start building a legacy that reflects your values and protects the people you care about most.

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