DISCLAIMER: This article does not create an attorney-client relationship between the author and the reader.  The answer of the author on the issue is just an expression of his general opinion based on Philippine law and hence does not constitute legal advice.

Some of my previous articles deal with the following subjects. You may read these articles by clicking the link in the list below:

1. How to minimize tax (Refer to my first article and second article).
2. Pay computation, retirement pay, and the tax thereon.
3. Financial instruments and the tax on income therefrom.

These previous articles are intended to assist maximize cash flow to help realize plans for support, expansion, education, insurance, investments, travel, and for some philanthropic initiatives.  Many of these plans are good only during lifetime because many do not plan for beyond.  To plan for beyond, one must have an estate planning.

What is an estate planning?

Investopedia.com defines estate planning as the preparation of tasks that manage an individual’s financial situation in the event of their incapacitation or death.  It is essentially an advance planning on how your assets will be managed and by who in case of incapacity or in case of death, how will your assets be distributed to your heirs.

This article covers estate planning in case of death.

The traditional estate planning tool is by executing a will.  Article 783 of the Civil Code defines a will as an act whereby a person is permitted, with the formalities prescribed by law, to control to a certain degree the disposition of his estate, to take effect after his death. Article 838 of the Civil Code further provides that, “No will shall pass either real or personal property unless it is proved and allowed in accordance with the Rules of Court.” This mandatory proving of the will prior to the distribution of the properties to the heirs is called probate of a will.  The purpose of probate is to determine whether the formalities required by law in a will are complied with.  Because probate is a court proceeding, executing a will may not be a convenient and economical way to distribute or pass assets to the heirs.  Aside from being tedious, it is costly. Probate of a will requires publication and lawyer’s assistance.

To avoid a probate proceeding, opening an irrevocable trust account as an estate planning tool is another option.  What is an irrevocable trust account? Investopedia.com defines irrevocable trust account as a type of trust account that cannot be modified, amended, or terminated without the beneficiary’s permission.  A trust account is an account whereby its assets are managed by a trustee for the benefit of the beneficiary. As an estate planning tool, the trust account implements your instructions or wishes on how its assets will be distributed to your heirs or beneficiaries.  The trust account, in the management of its assets, can even implement a family constitution. A family constitution is a set of rules and values primarily to govern management of family business.

Compared to a will which takes effect after death, an irrevocable trust account takes effect immediately at the time it is opened. Since the irrevocable trust account takes effect immediately upon opening, the assets transferred to the irrevocable trust account are no longer the properties of the grantor but are the properties of the irrevocable trust account.  The person opening or transferring the assets to the trust account for the benefit of the beneficiaries is called the trustor (also called the transferor or the grantor) while the person managing or handling the trust account is called the trustee.  In practice, the trustee is normally a financial institution licensed to engage in the trust business.

On the tax aspect, since the properties transferred to the irrevocable trust account are no longer the properties of the trustor, the transfer of the assets or properties is a donation subject to 6% donor’s tax on the net amount of donation.  Note that in a will, a 6% estate tax is also payable by the estate on the net estate.  Essentially, the tax rate is the same except on the tax base.  In the irrevocable trust account, the tax base is generally computed based on the prevailing market price of the properties at the time of the transfer.  In contrast, the prevailing market price of the assets at the time of the death of the testator is the basis in a will.  The testator is the person who executed the will.

You may refer to Title III of the National Internal Revenue Code (NIRC), as amended for more about estate and donor’s taxes.

As a final note, whether a will or an irrevocable trust account is chosen as an estate planning tool, the legitime of the heirs or beneficiaries are required to be respected.  Legitime is the portion of the property or estate reserved by law to the compulsory heirs.  Outside of the legitime, the trustor or the testator is free to distribute to whoever he wishes provided the recipients are not disqualified by law.

You may contact Atty. MEC or a financial institution for assistance!     

(September 30, 2024)