Many businesses choose to structure themselves as sole traders or companies. However, you can also set up a unit trust to run a business. A unit trust shares some of the benefits of a company structure and has additional tax benefits. If you want to set up a unit trust for your business, you should be aware of the advantages and the disadvantages. This article explains the main features of a unit trust and how a unit trust compares with a discretionary trust and a company.  

What is a Unit Trust?

A trust is the relationship between a trustee and beneficiaries governed by the trust deed. The trustee legally holds assets on behalf of and in the interest of its beneficiaries. The trustee is typically someone you trust or a company (corporate trustee) controlled by trusted directors which usually include beneficiaries.

The two types of trust include:

  1. discretionary (or family) trusts where the trustee can distribute income; or
  2. unit trusts where beneficiaries or unitholders’ hold fixed parcels or units in the trust.

A unit is a piece of property, such as a specific amount of income or shares. Unitholders are those who hold a fixed interest in the trust. The trustee distributes assets or income proportionally to each unitholders’ units.

This is different from a discretionary trust, which distributes assets or income at its discretion as long as they are in the best interest of the beneficiaries.

Why Should You Use a Unit Trust?

Unit trusts are used for two purposes, which include:

  1. a group of unrelated parties that invest either in shares or in property; or 
  2. unrelated business owners who operate a business that intends to raise limited capital.

The unit trust’s advantages and disadvantages are listed below.

1. Liability

A unit trust minimises liability. If a person sues the company run as a unit trust, only the trustee is sued on behalf of the trust. That means the assets held by the trust are at risk. The unitholders’ assets are safe. However, if the trustee breaches its fiduciary duties to the unitholders, the company assets could be at risk. 

2. Investment

A unit trust can attract a certain kind of investment. For example, units can be subscribed for to raise funds for the unit trust. Businesses operated through a unit trust tend to attract fewer investors than companies. The investors tend to be family or friends rather than venture capitalists or angel investors. 

3. Loans

Unit trusts are taxed at the highest marginal income tax rate. A unit trust generally distributes any income generated. The trust can struggle to retain funds to anticipate repayments and borrow money. Therefore, financiers may not want to lend to trusts. However, a unit trust can make distributions to a separate company that can holds funds and make repayments. 

4. Tax Planning

A unit trust does not have to pay tax. They can sell an asset that has been held for 12 months or more. The Capital Gains Tax (CGT) may apply, although they may be eligible for a 50% discount. 

Distributions from the unit trust form part of the unitholders’ income, which is subject to their marginal tax rate. Franking credits are available for unitholders in a fixed unit trust.

How is a Unit Trust Different From A Discretionary Trust or Company?

A unit trust has certain advantages over a discretionary trust or a company. However, many business owners may want to structure their business as a discretionary trust or a company. The table below illustrates the key differences between a discretionary trust and a company.

 

Discretionary trust Company
Liability   Beneficiaries are not liable if the trustee is sued. The trustee is liable if they breach their fiduciary duties to beneficiaries.  Company assets are at risk. Shareholders’ and directors’ assets are not. The only exception is if directors breach their directors’ duties. 
Investment A discretionary trust does not allow for investment as the beneficiary has no fixed interest.  Investors can subscribe for shares.
Loans It is difficult for financiers to lend money to a discretionary trust because any income generated must be distributed. A discretionary trust can distribute to a separate company set up for the purpose of borrowing and repaying money. Financiers can lend to companies, especially if directors provide personal guarantees for the repayment of loans. 
Tax A discretionary trust does not pay tax. If a beneficiary is an individual, the marginal tax rate applies. They are also taxed on their present entitlement and specific entitlement. The tax rate for a company is 27.5% or 30%. Dividends form part of the shareholders’ income subject to their marginal income tax rate. Shareholders receive franking credits when the company pays full franked dividends. 

 

Key Takeaways

A unit trust is an alternative business structure for businesses who want to protect their assets and plan their tax obligations. Business owners who want to structure their business through a unit trust will enjoy tax benefits such as the CGT. If you have any questions about unit trusts or need assistance with preparing your fixed unit trust deed, get in touch with LegalVision’s taxation lawyers on 1300 544 755 or fill out the form on this page. 

Nathalie King
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