A family trust is an agreement where a person or a company agrees to hold assets for others’ benefit, usually their family members. It is often set up by families to own assets. A family trust is also referred to as a “discretionary” trust. The word “discretionary” refers to the trustee’s powers or ability to decide which beneficiary or beneficiaries receive the trust’s net income and capital gains each year. They can also decide how much income each beneficiary receives. This is in contrast to a fixed or unit trust where the distribution of the trust income and capital gains are fixed. This article will explain the key aspects of a family trust, and the advantages and disadvantages of using one.

The Trust Deed

Unlike a company, a trust is not a separate legal entity. Instead, it is an agreement between the key parties to the trust. This “agreement” between the parties needs to be written down in the form of a trust deed. The trust deed is the legal agreement that will govern the operation of the trust and the role of each party to the trust.

Key Parties to a Family Trust

Trustee

A trustee is a person or company who is listed as the legal owner of the trust’s assets. The trustee is solely responsible for the trust and the trust’s creditors. When the trustee of a trust is a person, that person may be legally responsible to creditors of the trust. However, if the trustee is a company, the company is legally responsible to any creditors. Therefore, a company is often nominated or set up as the trustee of a trust to eliminate a trustee’s personal legal responsibility to creditors. You can appoint more than one party as the trustee of your trust.

For example, you borrow money from the bank for a house that is owned by a trust. Say you buy it for $1,000,000 and then sell it for $600,000. The bank will want its $1,000,000 back, but you only have $600,000. The bank can go after the trustee for the remaining $400,000. If you are an individual trustee, then the bank can take your car or other assets to satisfy the debt. This is because you are personally liable to the bank (your creditor). However, if you have a corporate trustee and that company has no money or assets, the bank will not be able to retrieve the $400,000 from the trust.

The trustee of a trust also has the authority to distribute any income and capital gains of the trust to the nominated beneficiaries, at its absolute discretion.

Beneficiaries

A beneficiary or beneficiaries of a trust are the people or companies who may benefit from the trust. They will be entitled to receive the trust’s income and capital gains if the trustee nominates them in a given financial year. Unlike the trustee, beneficiaries do not have control of the trust.

You can name the primary beneficiaries of your trust and also nominate unnamed beneficiaries. These unnamed beneficiaries can include the extended family of the named primary beneficiaries.

For example, the trustee can nominate for “the spouse of Brian Hunter” (your unnamed primary beneficiary) to be entitled to receive the trust income in the trust deed.

Settlor

The settlor only has a role in the setup stage of the trust. To form a family trust, a settlor needs to give assets or a sum of money to the trustee and sign the trust deed. Once the trust has been set up, the settlor will have no ongoing involvement in the trust.

For tax reasons, the settlor should be someone with no other connection to the trust. Often, a family friend, lawyer or accountant is nominated to act as the settlor of a trust.

Appointor

Often, the appointor of a family trust is the person who wants to set up the trust. The appointor is also responsible for appointing and replacing the trustee or trustees of the trust. As such, they are seen to be the person with ultimate control of the trust’s assets. The appointor, however, is not involved in the day-to-day control and running of the trust. Rather, the trustee fills this role.

Advantages of a Family Trust

Flexibility in Distributing Income and Capital Gains

The trustee of a trust has absolute discretion when it comes to distributing the trust’s net income and capital gains to the beneficiaries of the trust. This means they can choose to distribute whatever they want to whomever they want. This may translate into tax advantages.

For example, you distribute your taxable income to your children through a trust. Now, instead of being taxed for that income at your personal marginal tax rate of 45% (excluding levies), the income is taxed at your children’s lower marginal tax rates. However, note that this only applies if your children are over 18 years old. Trust distributions to minors are taxed at a rate of up to 66%. The same goes for distributions of capital gains through trust.

Capital losses cannot be distributed to trust beneficiaries. Instead, they can be carried forward to offset the trust’s capital gains in the next financial year. This works to reduce the trust’s net income.

Asset Protection

A family trust also offers some degree of protection for your personal assets. In most cases, a creditor cannot take a trustee’s personal assets in the event of bankruptcy. Likewise, creditors cannot take assets held by a company trustee in the event of that company’s liquidation, subject to some exceptions.

Low Set-Up Costs

The trust deed governs the life of a family trust. However, a family trust has a maximum life of 80 years, except in South Australia where the maximum is unlimited. Relative to its life, the costs of setting up a trust is relatively low. Unlike setting up a company where you have to pay the Australian Securities and Commission (ASIC) a fee each year, there are no ongoing government fees attached to a trust.

Disadvantages of a Family Trust

Not Suitable for Running Businesses

A family trust is not commonly used to run businesses for a couple of reasons. Firstly, any income the business makes would need to be distributed to the beneficiaries and cannot be retained by the business. The trustee of a trust is also legally required to pay tax on any undistributed income of the trust at the highest marginal tax rate.

Secondly, the trustee of a trust may be personally liable for the debts of the business. Remember, a trust is not a separate legal entity (like a company is), but rather an agreement between the parties of the trust. However, you can eliminate this risk by nominating a company to act as the trustee of your trust.

Loss of Ownership of Assets

Remember that the trustee of your trust will hold the legal title over the trust’s assets. This means that when you establish your trust, you will need to transfer your ownership over the assets to the trustee. Often, this transaction will give rise to Capital Gains Tax (CGT). It may also give rise to stamp duty and Goods and Services Tax (GST).

Ongoing Management

Once you have set up a trust, you will need to consider the time and cost involved in meeting the trust’s annual accounting and administrative requirements. Often people hire an accountant to do this for them.

Common Uses of a Family Trust

Families often set up a trust to hold assets, for example, physical property or shares in a company.

For example, if you own a business that you run as a company, you may choose to hold your shares in the company through a trust. This allows you to safely hold your shares from creditors and to distribute your dividends to your family members for more favourable tax outcomes.

You can hold more than one asset in a family trust. Often, people have one family trust whereby they store all or most of their assets for distribution. This acts a bit like a “family bank”.

Key Takeaways

Families often set up a family trust to hold both their physical and non-physical assets. The main benefits of having a family trust are the tax benefits and the flexibility it provides in distributing income to family members. Before you form a family trust, it is important to understand the key players in a trust and to have someone in mind for each role. A trust deed governs your family trust and how it works. It is therefore crucial that you have it drafted the way you want your trust to work. Changes made to the trust deed after your trust has been set up may give rise to tax implications. If you have questions about setting up a family trust, get in touch with LegalVision’s business lawyers on 1300 544 755 or fill out the form on this page.

Frequently Asked Questions

What is the Point of a Family Trust?

A family trust is an agreement where a person or a company agrees to hold assets for others’ benefit, usually their family members. It is often set up by families to own assets.

Who Are the Key Parties to a Trust?

The main party in a trust is the trustee. This is the person who holds all of the assets. Then, there are the beneficiaries. These are the people who benefit from the trust in some way. There is also a settler, who is involved in setting up the trust by signing the assets over to the trustee. Finally, the appointer is the person who wants to set up the trust and who selects the trustee.

Why Should I Set Up a Family Trust?

A family trust is a great way to hold assets, such as physical property or shares in a company. This is because it allows you to safely hold your assets from creditors and to distribute your dividends to your family members for more favourable tax outcomes.

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