Introduction:
Family trusts (also known as discretionary trusts) offer a robust financial strategy for protecting and managing assets, especially in business and succession planning. To make informed decisions about establishing a family trust, examining its benefits and drawbacks is crucial. This comprehensive article will delve into the practical aspects of family trusts, providing valuable insights and guidance. We aim to equip you with the necessary knowledge to evaluate the potential of family trusts within a business context.
Understanding the Family Trust:
A family trust is a flexible mechanism to hold and distribute assets among beneficiaries. In Australia, parents often act as trustees, channelling profits from their family businesses into the trust, which distributes income to children, grandchildren and spouses. Trustees retain discretion in determining the allocation of income to each beneficiary.
Operational Mechanics of a Family Trust:
Effectively managing a family trust can yield substantial benefits, particularly in optimising tax obligations. Like corporate entities, family trusts prepare annual financial statements and submit trust tax returns. At the end of the financial year, profits are calculated by deducting expenses and previous losses from the income, which is then allocated to beneficiaries. These distributions become part of the beneficiary's assessable income, subject to individual tax rates. Notably, the trust itself is exempt from direct taxation. If the trust's business generates over $75,000 in a financial year, it must register for the Goods and Services Tax (GST).
Advantages of Establishing a Family Trust:
Tax Efficiency for Businesses: Family trusts enable strategic income distribution and capital gains across family members, optimising individual tax rates. They facilitate tax-effective profit distribution from the business, avoiding the corporate tax rate. Additionally, when business profits exceed distribution capabilities, family trusts allow distributions to separate companies, capping the tax rate at a favourable 30%.
Effective Investment Structuring: Family trusts provide a tax-efficient framework for holding investments. Dividend income can be distributed among family members, minimising tax obligations. Capital gains concessions can be leveraged if trust assets are held for 12 months, enabling the distribution of capital gain income to beneficiaries.
Asset Protection: Operating a business through a family trust offers the opportunity to establish a corporate trustee company, combining the limited liability advantages of a company structure with the tax flexibility of a family trust. Moreover, significant investment assets find security within family trusts, held under a separate legal entity (i.e. the trustee company) to protect against financial difficulties or legal disputes.
Limitations of Family Trusts:
Limited Distribution Scope: Family trusts restrict income distribution to ancestral family members, excluding external parties and additional shareholders. Expanding your business beyond the family circle may encounter obstacles within the confines of a family trust.
Scalability Challenges: As businesses experience significant growth, family trusts face complexities in tax planning. In such cases, transitioning to a company structure might be more suitable.
Grant Limitations: Family trusts have limited access to government grants and tax concessions, such as the Research and Development tax concession or Early Stage Investor Concessions.
Ongoing Maintenance: Managing a family trust requires regular accounting and tax advisory services throughout its lifespan, resulting in associated costs.
Establishing a Family Trust - Practical Steps to Follow:
If you decide to establish a family trust in Australia, follow these important steps:
Trustee Selection: Choose the trustee(s) responsible for managing the fund. Typically parents assume this role, although third-party individuals like accountants, financial advisers or lawyers may provide an objective viewpoint on who might best serve as trustee. The trustee may also be a corporate trustee, where the company is the legal entity responsible for the trust’s affairs. We suggest consulting with your lawyer or accountant about which structure is most suitable for your needs.
Beneficiary Identification: Clearly define the beneficiaries entitled to receive income from the family trust, ensuring alignment with the trust deed.
Drafting the Trust Deed: Develop a legally binding trust deed outlining all relevant arrangements and legal processes governing the family trust. Perth Legal Docs online services can help you here.
Fund Settlement: Settle the family trust by transferring an initial lump sum to the trustee(s). This amount is typically a nominal sum establishing the trust's financial foundation.
Trust Document Execution: Once the trust deed is drafted the settlor signs the document, followed by the trustee(s) officially accepting their appointment.
Addressing Stamp Duty: Comply with the varying stamp duty requirements across Australian states and territories, ensuring adherence to respective revenue authorities. Perth Legal Docs’ trust deeds list a table with the respective state revenue offices that you need to contact to get this done.
Applying for an ABN and TFN: Lodge applications for an Australian Business Number (ABN) and Tax File Number (TFN) to activate the trust. Perth Legal Docs can do this for you too.
Establishing a Trust Bank Account: Open a trust bank account in the trustee's name, ensuring the settlement amount is deposited as the first transaction.
Summary:
Family trusts offer a robust strategy for protecting and managing assets, particularly in the context of business planning. By carefully evaluating their advantages and limitations, you can make informed decisions about establishing a family trust that aligns with your unique circumstances. Consultation with professionals specialising in family trusts will further enhance your understanding and ensure successful implementation.