Trusts

What is a Trust?

When understood properly, trusts can help people successfully plan finances, provide security for families, or achieve confident investing. Trusts, in essence, allow for one person (or a company) to hold property for the benefit of another person or a group of persons. The one holding the money is the trustee and the one for whom it is on hold for is known as the beneficiary. There are numerous types of trusts and it is important to identify which type of trust will best suit the overall goal for having one.

What is a Testamentary Trust?

A testamentary trust (sometimes referred to as a will trust or trust under will) is a trust which arises upon the death of the testator, and which is specified in his or her will. A will may contain more than one testamentary trust and may address all or any portion of the estate.

A Standard Will, in its simplest form, is a testamentary document confirming a Will-maker's choice of executors, beneficiaries and testamentary wishes regarding the distribution of their estate. A Testamentary Trust Will is a type of Will that establishes a Trust or Trusts upon the death of the Will-maker.

A testamentary trust is a legal arrangement created as specified in a person's will, and is occasioned by the death of that person. It is created to address any estate accumulated during that person's lifetime or generated as a result of a postmortem lawsuit, such as a settlement in a survival claim, or the proceeds from a life insurance policy held on the settlor. A trust can be created to oversee such assets. A trustee is appointed to direct the trust until a set time when the trust expires, such as when minor beneficiaries reach a specified age or accomplish a deed such as completing a set educational goal or achieving a specified matrimonial status.

What are the benefits?

• The significant advantage of a testamentary trust is that the assets are owned by one person(s), the trustee, and the benefit of the income and capital of the trust passes to another person/s, the beneficiaries. This separation of control and benefit allows testamentary trusts to protect assets from any legal action involving the beneficiaries and/or misuse of those assets. Should you be involved in a 'risk' occupation where you might be sued and want to protect your own assets, you might consider having the Wills of your parents and spouse establish testamentary trusts for you rather than inheriting assets personally.
• If you have a beneficiary who has an intellectual impairment, you could leave part of your estate for that person's benefit by naming that person as the primary beneficiary of a testamentary trust with a family member, professional adviser or a trustee company as the trustee.
• If an intended beneficiary faces bankruptcy, an inheritance for that beneficiary through a testamentary trust will not form part of the beneficiary’s estate for bankruptcy purposes.
• Assets held within a testamentary trust are unlikely to be the subject of a court order in the case of beneficiaries experiencing a break-up of their marriage although they may have some effect on the terms of the property settlement.

What should I be thinking about?

• It is important to consider the taxation rules for superannuation death benefits if the trust beneficiaries are not confined to dependants
• Tax implications should be considered for the exemption of capital gains tax on the family home, if the residence is held in the trust as well as tax concessions for active assets for small businesses in the trust
• You should consider what is to happen if the trust continues past the primary beneficiary’s death and think about dispute resolution formulas for a 'second generation' situation.
• One disadvantage is the cost of administering a testamentary trust. If a professional is appointed trustee, there will be fees for this service. There will be ongoing administrative costs involved in maintaining a trust, such as accountancy fees for preparation of trust taxation returns. You should consider whether the income generated by your estate will be sufficient to warrant a testamentary trust.
• If you already have a family trust the assets of your family trust do not form part of your estate. If all your assets are presently owned by your family trust, there would be no point in establishing a testamentary trust unless you planned to wind down your family trust and transfer the assets in it to yourself.

What is a Discretionary Family Trust

A discretionary family trust is structure to hold assets in the name of an entity on behalf of family members.

How does it work?

A trustee is appointed to manage the trust and the assets are all registered in the trustee’s name and are held by the trustee on behalf of the beneficiaries. Rules for how the trust can operate are included in a written document called a trust deed.

The trustee has flexible powers to decide which beneficiaries will receive income and/or capital distributions each year.

Family trusts may be useful for purposes such as asset protection, tax planning or estate planning. They can also provide benefits for family members who are unable to manage their own finances due to age, mental capacity or personal competencies.

To set up a trust you need to work with a legal adviser to draft the trust deed and determine who will be potential beneficiaries and trustee.

There are some key roles and you should seek legal advice to decide who is best suited to fill each role:

• Settlor – makes the initial contribution to the trust
• Trustee – holds the assets on behalf of the beneficiaries and makes decisions including how to distribute income and/or capital
• Beneficiaries – are able to receive benefits from the trust
• Appointer – can remove the trustee and appoint a new trustee

Assets can be transferred into the trust. This will be a deemed disposal of the assets by the person transferring in the assets, and capital gains tax may be payable by that person. The assets are owned by the trustee on behalf of the beneficiaries of the trust. Income derived from the assets is paid to the trust and the trustee decides which beneficiaries will receive distributions of income and/or capital.

Assets held in a trust will not form part of your estate upon your death.

You should seek legal and taxation advice to ensure your trust is established correctly. The trust deed should be drafted by a legal adviser to meet your needs.

What are the benefits?

• Flexibility to decide how to distribute income and capital each year
• Separation of legal ownership which may help to provide asset protection

What should I be thinking about?

• All taxable income must be distributed or penalty tax (at the highest marginal tax rate plus Medicare Levy) will apply
• Losses cannot be passed onto beneficiaries to reduce personal tax liability
• Costs will be incurred to set up and managed the trust
• Assets held in a trust are not owned by any person. Instead they are held on behalf of all beneficiaries but with no fixed entitlements. This may provide protection against claims from events such as bankruptcy, divorce or legal claims. It may also provide protection for people who cannot manage their own finances. However, in some cases, the courts can overturn this principle and treat assets in a trust as if the person owned the assets directly. You should speak to your legal adviser to understand these risks.

Taxation Rules

Generally income of a trust (including franking credits) is distributed to beneficiaries and is taxable in the hands of the beneficiary at their marginal tax rate. The trust will pay tax on any undistributed income at the highest marginal tax rate plus Medicare levy.

The trust must have its own Australian Business Number and Tax File number. Tax returns will need to be lodged each year, but if all income has been distributed the trust will not pay any tax.

The trustee can consider the circumstances of individual beneficiaries when making the distribution. This means that overall tax may be minimised by making distributions to beneficiaries on lower marginal tax rates.

If the trust sells assets that have been held for at least 12 months, a 50% discount on realised capital gains can be claimed by individual beneficiaries who receive this distributed gain.

You should seek taxation advice on how the income of a discretionary trust will be taxed and the optimal strategies for trust distributions each year.

If you are transferring assets to the trust this will be deemed to be a disposal for capital gains tax purposes and you may need to pay tax on realised capital gains.

You should seek taxation advice for the impact on your situation.

What is a Special Disability Trust?

The purpose of a Special Disability trust is to assist immediate family members and carers who have the financial means to do so, to make private financial provision for the current and future care and accommodation needs of a family member with severe disability and receive means test concessions.

It is necessary that, before a Special Disability Trust is established, the prospective trust beneficiary be assessed as severely disabled under the legislation for this type of trust

For a Special Disability Trust, the principal beneficiary is the only attributed stakeholder under the Trust and Company rules.

How does it work?

Before the means test concessions can be granted, a trust must legally exist. In general, for a trust to then be considered a 'special disability trust', it must meet the following requirements:

• the principal beneficiary (also known as beneficiary) must have a severe disability
• have only one principal beneficiary (i.e. the person for whom the trust is established)
• the primary purpose must be to provide for the care and accommodation needs of the principal beneficiary
• have a trust deed, or be established via a will, that contains all of the compulsory clauses set out in the model trust deed (for trusts established before 20 September 2006, the trustee can be issued with a waiver notice for certain requirements)
• have more than one trustee OR a professional trustee
• comply with the legislative requirements
• provide annual financial statements and a statutory declaration to Centrelink or DVA , and
• conduct independent audits when required.

What are the benefits?

The principal place of residence of the beneficiary becomes an asset of the Trust. As an asset of the Trust, the beneficiary has a life interest in the property. This provides security of tenure for the life of the beneficiary.

The trustee may spend Trust assets on reasonable care that is directly related to the care of the beneficiary. To fall within this ambit, the need for the care must be for the primary benefit of the beneficiary and this need must be met within Australia. Examples of reasonable care needs could include any relevant aids, communication devices or vehicle modifications required for the beneficiary’s disability. This is certainly not a definitive list.

The trustee may also spend up to $10,500 per annum for care that is not directly related to the care and accommodation needs of the beneficiary. This is called discretionary spending. Whilst some may find this concerning, this recent legislative amendment ensures that there is some flexibility in meeting the day to day needs of the beneficiary. Examples could include workshops or recreational activities for the beneficiary, basic food as well as any required household cleaning

What should I be thinking about?

Whist a Special Disability Trust is an excellent planning tool, they can be extraordinarily expensive to establish. In some situations they are not feasible solutions to a family’s planning needs. There are also ongoing legal and accountancy costs to maintain the Trust. These factors must be considered when planning for the future needs of a son or daughter with a severe disability.

This information is of a general nature. It does not consider your personal objectives, needs or situation. It does not represent legal, tax or personal advice and should not be taken as such. If it has been provided to you with a Statement of Advice (SoA), you should rely on the personal advice in the SoA.

Care has been taken to provide up to date and accurate information relating to the subject area however BR Advice Pty Ltd (ABN 30 612 056 523, AFSL 488655), Blue Rock Private Wealth Pty Ltd (ABN 95 166 927 055, AFSL 452733), Blue Rock Private Wealth (Melb) Pty Ltd (ABN 48 652 202 698, ASIC AFS No. 1298365) and their representatives make no representation as to its accuracy or completeness.

Published: September 2022.

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