A family trust can be a great vehicle to help build wealth, with many benefits from a tax, asset protection and estate planning perspective.
I personally use a family trust in my own situation and have many clients that do so as well. This puts me in a good position to give you some high-level thoughts on the pros, cons and uses of a family trust.
Before jumping in, I do want to say that utilising a family trust is definitely not appropriate for everyone’s situation. You really need to do your research and get the right advice prior to going down this path.
What is a family trust?
A trust is a structure that allows trustee to hold assets on behalf of its beneficiaries. There are different types of trust available but in this article we are focusing on a family trust.
A family trust is a form of discretionary trust which has made a Family Trust Election (FTE). This means that immediate family members (parents, grandparents, spouses, children, brothers and sisters) can be the beneficiaries of the trust.
The trustee is commonly going to be you as an individual or you as the Director of a corporate trustee. I typically prefer the latter option in most cases as it provides additional estate planning and asset protection (limited liability) benefits.
Family trusts for tax planning
One of the key benefits of using a family trust is tax planning. By setting up a trust, individuals can purchase assets in the trust, distributing future income and capital gains to the beneficiaries at the trustee’s discretion.
For example, if you want to purchase an investment property, you could consider doing so via a family trust. Under this arrangement, instead of the rent always getting taxed in the name of the person on the title, the trustee can distribute the net rental income differently each year.
This could mean you can distribute a portion of the income to your spouse, a portion to your kids and the remainder to yourself. It’s powerful because you can change who gets what each year, adapting it depending on your family situation and the associated marginal tax rates.
It’s important to note that unlike companies, family trusts do receive the 50% general discount on capital gains for assets held longer than 12 months.
If you are considering using a family trust for tax planning purposes, you should seek independent advice from a licensed accountant.
Family trusts for asset protection
Another key benefit of using a family trust is asset protection.
Assets held in a trust are generally protected from legal claims and creditors. This can be especially important if you are in a high-risk profession or involved in litigation. By holding assets in a trust, you can help to protect your assets from potential lawsuits and other legal claims.
If you are considering utilising a family trust for asset protection purposes, you should seek independent legal advice first.
Family trusts for estate planning
Family trusts can also be useful for estate planning purposes as trust assets do not form part of the estate. Instead, they are dealt with by the succession provisions in the trust deed.
Under this arrangement, the assets can continue to be owned by the trust if you pass away. There is no need to sell down the asset or change ownership if it is in a family trust (this is made even easier with a corporate trustee). This gives you more control over managing tax consequences for the beneficiaries.
Also, distributions can be made on ongoing basis. This avoids the need to distribute large lumps of money or assets where you don’t think it is appropriate for the beneficiary. For instance, you may have an adult child that is terrible with money – under a family trust you can limit the income they receive to prevent them from wasting it.
If you have a complex family structure or a blended family, you could consider a family trust as it can help to ensure that all beneficiaries are treated fairly, particularly where you think a will may be contested.
If you are considering utilising a family trust for estate planning purposes, you should seek advice from an estate planning specialist.
Downsides of a family trust
As you can see, there are a lot of potential benefits to using a family trust. However, before you get too excited, let’s consider some of the downsides:
- Trusts can be expensive to set up and maintain. Each year you will need to lodge a tax return for the trust. Therefore, a trust is not cost effective for small sums of money;
- If you hold existing assets and want to transfer the ownership to a family trust, there will be capital gains tax issues and potential stamp duty considerations dependent on the type of asset;
- Family trusts can’t distribute a loss. This can be particularly tax inefficient where the trust also has franking credits that it wants to distribute but can’t due to the tax loss position. Whilst tax losses can be carried forward, the benefit of the franking credits will be lost;
- All profits should be distributed out of a family trust. If retained in the trust, they will be taxed at the top marginal rate;
- Before distributing money to a beneficiary, consider what implications having additional assessable income will mean for them aside from the obvious tax payable. For instance, special consideration needs to be put on the impact it could have on any social security benefits such as the Age Pension, or if the is a HECS debt, this could increase the mandatory repayment;
- When distributing money to children below the age of 18, you need to be aware of the minor tax rates;
- You should consider the implications of section 100A of the taxation ruling which deals with reimbursement agreements. It may be considered tax avoidance where lower or concessionally taxed beneficiaries of a trust are made entitled to trust income by the trustee, while the income is enjoyed by another person who would otherwise have had to pay more income tax.
Continue to learn more about family trusts
So there you have it, a quick crash course in family trusts.
Today we have just scratched the surface, there is a lot more we could have talked about such as utilising a family trust structure for business owners or employing a bucket company as a beneficiary of a family trust. We will save these topics for a future blog.
If you think a trust might be right for you, I suggest doing more research (the ATO website is a good start) and seeking professional advice. Feel free to contact us for Tailored Advice to discuss if a family trust might be right for you.
