A family trust can be an effective structure to house assets or run a business, particularly from a tax planning, asset protection and estate planning perspective.
However, family trusts are not suitable for everyone. They introduce additional cost, complexity and ongoing compliance, and they tend to work best where there is a clear long-term strategy and sufficient income or assets to justify their use.
Importantly, the way a family trust operates — and the benefits it can deliver — differs significantly depending on whether it is used to hold passive investments or to operate a business. It is preferable for a trust to have a clear purpose, being used for either passive investing or business activities, rather than attempting to do both within the same structure.
Understanding that distinction is critical before deciding whether a trust is the right structure.
What is a family trust?
A trust is a legal structure where a trustee holds assets on behalf of beneficiaries.
This article focuses on family trusts, which are typically discretionary trusts that have made a Family Trust Election (FTE) with the ATO. Making an FTE limits who can benefit from the trust to a defined family group, generally including spouses, children, parents, grandparents and siblings.
The trustee controls the trust and decides how income and capital gains are distributed each financial year. The trustee can be an individual or a company acting solely in its capacity as trustee. In practice, a corporate trustee is often preferred as it tends to provide clearer asset separation, more robust estate planning outcomes and simpler succession of control over time.
Family trusts and tax planning
One of the primary reasons family trusts are used is the flexibility they provide around tax outcomes.
A family trust allows income and capital gains to be distributed at the trustee’s discretion each year. Rather than income being taxed solely in the name of the legal owner of an asset, it can be directed to beneficiaries with lower marginal tax rates, provided distributions are made correctly and in accordance with tax law.
Where a family trust holds passive investments, such as shares or investment properties, this flexibility can be particularly valuable. Rental income or portfolio income does not need to be allocated to the same person each year, allowing distributions to be adjusted as family circumstances and tax positions evolve.
Unlike companies, family trusts are also eligible for the 50% capital gains tax discount on assets held for more than 12 months. Capital gains can generally be streamed separately from income, subject to the trust deed and appropriate tax advice.
Because trust taxation is technical and heavily regulated, tax planning through a family trust should always be undertaken with the assistance of a suitably qualified accountant.
Family trusts for passive investments vs business income
It is important to distinguish between using a family trust to hold passive investments and using one to operate a business, as the outcomes can differ materially.
For passive investments, family trusts allow for flexible income and capital gains distributions, access to the capital gains tax discount, and can integrate effectively with long-term wealth accumulation and estate planning strategies.
Using a family trust to operate a business is more nuanced. While trusts can be appropriate in some business contexts, the tax benefits are often more limited than commonly assumed. In many cases, business income may fall under the personal services income (PSI) rules, which can significantly restrict income splitting and reduce the flexibility that trusts are often established to achieve.
In addition, family trusts are not designed to retain profits efficiently. Any income not distributed is taxed at the top marginal tax rate, which can make reinvestment back into the business inefficient compared to company structures. For this reason, business owners often need to consider whether a company, a trust, or a combination of both is more appropriate.
Where business risk, growth or reinvestment is a priority, the structure requires careful design rather than a default assumption that a family trust will deliver tax advantages.
Asset protection considerations
Family trusts are commonly used as part of a broader asset protection strategy, particularly for business owners and individuals exposed to higher legal or commercial risk.
Assets held in a properly structured discretionary trust are generally not owned personally, which may provide a degree of separation from personal creditors. However, the effectiveness of this protection depends on how the trust is structured and operated, including who controls the trust, whether personal guarantees are in place and the nature of any claim.
A family trust is not a guaranteed shield, and asset protection outcomes are highly fact-specific. Legal advice is essential where asset protection is a key objective.
Family trusts and estate planning
Family trusts can play a valuable role in estate planning because trust assets do not form part of an individual’s personal estate. Instead, they are governed by the trust deed and the succession of control over the trustee.
This can allow assets to continue to be held within the trust after death without triggering a sale or transfer of ownership. When combined with a corporate trustee, control can often pass smoothly without creating capital gains tax or stamp duty consequences.
Trusts also allow for controlled, ongoing distributions rather than large lump-sum inheritances. This can be particularly useful where beneficiaries are young, financially inexperienced, part of a blended family, or where there are concerns around asset protection or relationship breakdowns.
Trusts should be coordinated carefully with wills and enduring powers of attorney to ensure the estate plan operates as intended.
Limitations and risks to be aware of
While family trusts can be effective, they are not without drawbacks:
- Setup and ongoing costs: Family trusts involve establishment costs, annual tax returns and ongoing administration, making them less suitable for smaller asset balances and smaller businesses.
- Losses cannot be distributed: Any tax losses are trapped in the trust and carried forward, which can reduce tax efficiency in some situations. Importantly, if a trust makes a loss, franking credits derived within the trust are lost.
- Undistributed income is heavily taxed: Income retained in the trust is taxed at the top marginal tax rate, so profits are generally distributed each year. A corporate beneficiary may be an appropriate structure to add to your asset structure for this reason.
- Transferring existing assets can be costly: Moving assets into a trust later may trigger capital gains tax and stamp duty, depending on the asset and state.
- Flow-on impacts for beneficiaries: Distributions can affect HECS/HELP repayments, Medicare levies, social security benefits and aged care outcomes.
- Minor beneficiaries are taxed at higher rates: Distributions to children under 18 are taxed at penal rates, limiting their usefulness.
- ATO scrutiny under section 100A: Arrangements where income is distributed to one person but effectively enjoyed by another can be challenged and taxed at the top marginal rate.
- Higher property holding costs in some states: Depending on the state, purchasing property through a family trust may limit access to certain stamp duty concessions or land tax thresholds, and in some cases result in higher ongoing land tax. These differences can materially affect long-term holding costs and should be considered before acquiring property via a trust. In addition, if you reside in a property owned by a family trust, the property typically won’t be eligible for the main residence exemption.
The Guided Investor approach
Family trusts can be a powerful long-term wealth structuring tool when used for the right reasons and in the right circumstances. We typically consider their merit in Phases 2 and up of the wealth creation process.
Where business income is involved, the structure requires far more careful consideration and often works best alongside a company rather than in isolation.
As with any structural decision, family trusts should only be implemented with coordinated advice from an accountant, financial adviser and solicitor to ensure they align with your broader financial strategy.
