Family trusts are often in the headlines thanks to high profile family disputes or moves by regulators to limit their use as a tax minimisation tool. More recently, changes to superannuation have seen investors looking with renewed interest at family trust structures.
The number of discretionary trusts (many of them family trusts) has almost doubled over the last two decades. As of the 2014-15 financial year it stands at 643,000, which is a jump that’s far ahead of population growth1. And, along with their rising popularity have come increased media exposure and political debate.
Family trusts are generally considered the next most popular investment vehicle in Australia after superannuation. Which explains why, after the 2017 changes to super, there was anecdotal evidence of more clients asking their financial advisers about setting one up2.
The main reasons for setting up family trusts are income distribution flexibility (which may have tax benefits), asset protection and estate planning, says Peter O’Callaghan, Managing Partner at MSI Taylor Wealth Management. But he’s quick to point out that the decision to establish a trust needs to be based on your overall financial situation, family circumstances and stage of life.
Family trusts can be an effective means of reducing the rate of tax (income and capital gains) payable through the ability to split income between tax payers, even within the family.
O’Callaghan uses the example of his clients Diana*, on an annual salary of around $400,000, and her husband Marco*, who earns up to $90,000 per year. They have three children under seven years.
Diana had previously invested into a number of geared strategies to reduce tax but, as a result, she’d suffered financially during the global financial crisis. She wanted to save, but was looking for a safer approach, says O’Callaghan.
“So, we used a combination of investment gearing and regular savings, via a family trust structure, to manage the level of investment income and increase the potential pool of income recipients,” he says.
In their situation, establishing a family trust enables the couple to channel income from investments (and capital gains) to Marco when his income is lower, and use a corporate beneficiary when his marginal tax rate exceeds that of company tax rates. In addition, there is capacity to distribute up to $416 per annum to each child under the age of 18 (tax rates for children increase significantly above this threshold). As the children reach age 18, they’re taxed at adult marginal rates, and the ability to flexibly distribute income and capital gains increases.
The flexibility in income distribution allowed under a family trust is certainly an advantage, says Michelle Hartman, Partner at Deloitte Private.
“It’s particularly useful when kids are over 18 and not earning money themselves; you can help support them by making income distributions to them,” she says.
68-year-old Marg* is still working and has two adult children with disabilities, who are recipients of Centrelink pensions. Marg has accrued a large bank balance from an estimated surplus cashflow of more than $180,000 pa from wages, a superannuation pension, and investment income. She wants to be able to provide some support for the children without risking their Centrelink entitlements and is also concerned about how to pass her assets on to the children on her death.
Marg, who intends to continue working for another couple of years, is discussing with her accountant about gifting or loaning her savings to a family trust of which her children are two of a number of potential beneficiaries. If she were to be the trustee, she retains the discretion to manage the flow of income to optimise Centrelink payments. At the same time, Marg is considering asset purchases such as a house, that each of the children could ‘rent’ from the trust, securing their accommodation needs without the need for them to own the asset. Whether Marg ‘gifts’ or ‘loans’ the initial amount to the trust would be determined in consultation with her tax professional, says O’Callaghan.