First, let’s start with – what is a discretionary trust?
A discretionary trust is a trust that is set up where the trustee has discretion in determining which beneficiaries are to receive monies from the trust, and how much each beneficiary will receive.
Note that this is not a complete discretion as the trustee still has to abide by the rules in the trust deed.
How can a discretionary trust protect my assets?
A discretionary trust is often used as a device for splitting the income of a family group by channelling the earnings of the family through to separate individuals.
A discretionary trust can also be used to purchase interests in businesses, shares in companies, or investment properties, and any income that results from these investments go back into the trust and are housed within the trust.
Within a discretionary trust structure, the beneficiary does not own any assets in the trust, or have any interest in the property of the trust. The beneficiary has no right to any of the property within the trust, and merely has an expectation that he or she will be considered when the trustee decides to make a distribution of monies from the trust. Having no interest in the trust property means that if a beneficiary was to become bankrupt or subject to a debt claim, a creditor would have difficulty in obtaining an order against the trust property.
Creditors of a beneficiary have no claim on trust property. The only creditors who have a right to property held on trust are those who are creditors of that trust.
How does this actually work in practice?
Let’s look at a couple of very simple examples.
David and James went jet skiing. Through a negligent, albeit unintentional act, David crashes into James’ jet ski and injures James. David is then ordered to pay $200,000.00 in damages to James. David has assets of $1 million, but all assets are held in a discretionary trust.
Does this mean money from the trust can be taken out to pay the damages? Generally, no as creditors do not have rights against a trust.
Anna operates a business with a shop lease for 2 years. The business is unsuccessful and is wound up very quickly. The landlord then obtains a judgment against Anna for $500,000.00. Anna goes bankrupt. There is a discretionary trust which owns an investment property. Anna, through the discretionary trust structure, is able to keep that investment property.
You should note that these examples are not an indication of whether or not any claims made against you will be successful or not.
Laws are always subject to change, and claims are determined on a case-by-case basis.
Although a discretionary trust can provide the benefit of asset protection, it does not necessarily mean that it is suitable for your business or personal circumstances. If you are unsure of how you wish to structure your business, or what set up will be most beneficial, in light of your financial circumstances, it is best to seek the professional opinion of a lawyer and accountant/tax adviser.