Trust funds: Should they be part of a physician’s financial plan?

How do you know if a trust is right for your financial situation? This legal arrangement whereby a contributor (or settlor) transfers assets to a trustee to hold and manage for a beneficiary, can be the right choice—especially for physicians who have accumulated significant assets.Whether those assets are inside or outside their corporation, formal trusts can be used for income splitting, tax deferral, asset protection and estate planning. With the right structure, a trust can allow you to efficiently pass along wealth (while living or not) while minimizing tax and liability risks. It can be a good way to care for minors or dependents who have special needs, establishing since they can arrange for how often, when and for what purpose a beneficiary receives funds.“I’ve worked with several physicians who have set up trust structures as part of their overall wealth and estate planning strategy,” said Gurtej Varn, a national wealth advisor and financial planner for physicians at White Coat Financial in Vancouver. “While trusts aren’t as common as RESPs (Registered Education Savinds Plans) or straightforward wills, they do come up often—especially for high-income physicians, incorporated doctors, and those looking to create intergenerational wealth while managing tax exposure.”Dr. Paul Healey, an ER physician in Oakville, Ont., runs the very-popular Physician Financial Independence (Canada) Facebook group, also known as PFI, with his pediatrician wife Dr. Jane Healey. He sees formal trusts as more niche than necessary.“You really should start by making sure that your RESPs are full,” said Dr. Healey in an interview. “That's a better approach because it's a tax shelter.”The lifetime contribution limit for RESPs, where money is put aside for someone’s education, is currently $50,000. The government will match your contributions by 20%, up to a maximum of $500 annually, money that would have to be paid back if the recipient did not pursue post-secondary education. “But assuming the RESP is full, the usual scenario where you would want to set up a trust is if a child is receiving an inheritance from a grandparent and you want to hold that until they reach an appropriate age.”Informal trustsBeyond RESPs, rather than formal trusts, Dr. Healey suggests the option of informal trusts, which technically are not trusts, but “In trust for” or ITF funds, which require paperwork but don’t require the involvement of a lawyer. A bank or a brokerage can set up the account. As with a formal trust, a contributor or settlor has to be distinct from the trustee, who oversees it.ITFs are a good starting point if you’re looking to invest a smaller amount of capital (under $50,000) and want flexibility without the complexity of a formal trust. ITFs are commonly set up for grandparents investing modest amounts for their grandchildren.“I've also seen people set this up because they want to show their kids how to invest money,” he said. “You can invest that money, and when they turn 18, the account is turned over to them and the money is theirs. They would probably have to pay (only) a little bit of tax on the earnings.” Also to note, said Dr. Healey, is that ITF funds are irrevocable. Once it’s set up, the money is the beneficiary’s at age 18.Formal trustsFormal trusts offer more control than ITFs, with legal control and tax advantages. They are more complicated to set up, but ensure the assets are distributed according to your long-term intentions rather than automatically transferring to the beneficiary at the age of majority.There are different kinds of formal trusts. Testamentary Trusts are set up as a result of the death of an individual. An Inter-vivos (Living) Trust is set up during an individual's lifetime. There are different types of Inter-vivos trusts as well, making it important to talk to a financial planner.“Some physicians set up alter-ego trusts, which defer tax on capital gains until death, when they actually need a discretionary family trust (which allows income splitting and asset protection),” said Varn. “So it’s important to work with an advisor who understands how different trust types interact with corporate structures and tax laws.”When does a formal trust make sense?Physicians may want to first fill an RESP, if the allocation is expected to be used primarily for education. But there are many other reasons to open a trust:Estate planning/intergenerational wealth transfer: If you want to leave money for children or grandchildren but do not want them to have full control too early, a trust ensures they receive funds at a controlled pace.Ensuring money is used for the right purposes: Unlike a will, where assets transfer immediately, a trust allows ongoing control over how funds are used (whether the settlor is alive or not)—perhaps for general support, education, starting a business or buying a home.Tax planning & income splitting: Trusts allow you to distribute income to lower-income family members (such as children or a spouse) in a tax-efficient way. “This used to be more common before the Tax on Split Income (TOSI) rules were tightened,” cautions Gutej “But with careful structuring, there are still ways to make it work.”Protecting assets from lawsuits or creditors: Physicians can be exposed to malpractice claims (even with liability insurance) or messy divorce settlements. Trusts can sometimes be used to shield assets from personal liability, said Varn.Holding corporate investments: If you have significant retained earnings in a medical professional corporation, you could use a trust to manage passive income taxation, since the $50,000 passive income threshold can reduce the small business deduction. "A family trust can be used to hold investments outside the professional corporation, which can help manage and reduce passive income inside the corporation, preventing it from exceeding the $50,000 threshold."Potential pitfallsBut what are the "cons"? According to Varn, they are:The cost: Setting up and maintaining a formal trust generally comes with a serious price-tag, often in the thousands, with services often provided by lawyers, accountants and financial advisors.Tax implications and admin: Opening a trust fund usually requires a fair amount of record-keeping and an awareness of tax rules and implications. “Trusts require annual T3 tax returns, proper documentation of trustee decisions, and regular reviews to ensure compliance. Ensure the trust is actively managed and reviewed at least once a year with an accountant.”There is also the 21-year rule to be aware of. “Every 21 years, a trust is deemed to sell all of its assets at fair market value, which can trigger a significant tax bill if not planned for,” said Varn. “The solution is to have an exit strategy, such as such as distributing assets before the 21-year mark or using a re-settlement strategy.”Trusts are not a one-size-fits-all solution, and with CRA’s continued tightening of income-splitting and anti-avoidance rules, they require careful planning, said Varn. "Trusts can be incredibly powerful tools for physicians looking to protect and grow their wealth, but they need to be set up for the right reasons and managed properly.”

Trust funds: Should they be part of a physician’s financial plan?

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