The Dead Hand: why you don't want to grant a life tenancy under your Will

Second and third marriages and two or three long term de facto relationships are becoming more common in today's society.  With the increase in the number of blended families and multiple spouses, "life interests" are often seen as a method of providing a place to live for the current spouse while retaining the actual asset for the benefit of the children from a previous marriage.  

"Life interests", "life tenancies" or "life estates" may be created in personal or real property.  It is most commonly used as a term to describe an interest in property for the term of a person's lifetime. 

Generally, the life tenant will have a right to possess and enjoy an asset for the duration of his or her lifetime or until he or she violates a condition of the tenancy.  Once the life tenant dies or violates the relevant condition, the ownership of the asset is transferred to the "remaindermen", who are those persons who are entitled to the ownership of the asset after the life tenant's death.  

The terms of the life interest are commonly set out in a person's Will or in a deed.  Overall, life interests are often seen as a good way of allowing a party to provide for his or her current spouse, via the life interest, while preserving capital for a future generation. 

In addition, life interests appear to becoming more popular as a result of more people buying property as tenants in common - that is, each party owns a distinct share (eg 50% or 30%) which he or she can "gift" under his or her own respective Wills.  Unlike a joint tenancy, this distinct share does not pass automatically via survivorship to the other owner upon the first owner's death. 

However, life interests are not something that should be entered into lightly and careful thought should be given to a number of aspects of a life interest.  The "mechanics" of establishing the life tenancy are fraught with potential difficulties. 

For instance:

(a)  who should be the legal owner of the property during the currency of the life tenancy?  Should it be the executors rather than the life tenant?  Should the life tenant be one of the executors of the Will?

(b)  what happens if the life tenant needs to sell the property (let's say, to go into a nursing home)?  Can the life tenant (or the executor of the Will on the life tenant's behalf) use part of the proceeds towards payment of the residential care home bond or would the life tenancy be deemed to terminate?

(c)  does the life tenant have a mere right of residency in the property only or does the life tenant have a "real" life tenancy which allows he or she to enjoy all of the fruits of the tenancy, including receiving the net income received from the property by leasing it to a third party if he or she is not able to, or does not wish to, reside any longer in the property?

(d)  can the life tenant (or the executor on the life tenant's behalf) sell the property to purchase a smaller and more manageable property?  If so, what happens to any excess funds?

(e)  who is to pay for the upkeep and maintenance of the property, in particular, careful thought should be given to whether or not the deceased's estate (generally, the residuary estate) is to pay for any of the rates and taxes or bills associated with the property.  Should there be a separate fund in the Will to pay for these contingencies?; and

(f)  are the chattels (personal possessions) in the property to form part of the life tenant's interest and will items of specific value, such as family antiques, remain in the property?

All theses issues must be considered and the consequences of each decision considered carefully when considering whether to include a life interest or life estate in a Will.

Unfortunately, life interests have a number of serious disadvantages associated with them, including that a life interest can lead to longstanding frustrations between the life tenant and the remaindermen.  Life interests can also create considerable uncertainty, in that the remaindermen may never know when they may ultimately receive the benefit of the asset.  Life interests may often also add costs and delays to the finalisation of the administration of the estate.   Further, life interests can often cause conflicts between the life tenant and remaindermen if the persons who will ultimately receive the property feel it is not being maintained adequately by the life tenant.

The potential negative capital gains tax consequences of life interests should not be overlooked.  Typically, the general tax position is that the estate will be entitled to the main residence exemption if the property was the deceased's home and the property is sold and settlement of the sale of the property takes place within 2 years from the date of the deceased's death.  However, a life tenancy significantly complicates this position and the position becomes even more complicated if the life tenant decides during his or her lifetime to surrender his or her interest in the property and the life tenant and the remaindermen decide it would be best to sell the property.  In both cases, significant capital gains tax consequences may flow from a disposal of the property.

Overall, life interests should never be seen as an easy answer to a complex estate planning situation.  Whether or not a life interest is appropriate to your circumstances, and the potential repercussions of a life interest, should always be carefully considered by your estate planning lawyer.

For further information please contact our Principal in charge of Estate Planning, Rob Durey at rdurey@talbotolivier.com.au or Sarah Walton at swalton@talbotolivier.com.au .