A family trust can be a powerful tool for managing and protecting your family’s assets, but it’s important to weigh the costs before deciding to use one.
At its core, a family trust is a type of discretionary trust used to hold assets for a family. A discretionary trust is so named because the trustee has the discretion to direct income generated within the trust to whatever beneficiary they see fit. Incidentally, this aspect forms the basis for why most people utilise a family trust in the first place: tax planning.
Before covering the potential benefits, the costs of establishing and running a trust should be outlined.
Cost of a Family Trust
Setup
The cost of setting up a family trust varies significantly, so it’s challenging to provide precise figures. An aspect that varies this cost will be whether the trust will have a corporate trustee or individual trustees. This choice not only changes the upfront and ongoing cost, but it can also impact the benefits discussed later in the article.
Based on publicly available data and anecdotal experience, setting up a family trust with an individual trustee costs about $1,500 on average. For a trust with a corporate trustee, this cost rises to around $2,500. In some states, stamp duty may also apply, with New South Wales currently having the highest rate at $750.
Of course, the extent of the legal and accounting advice received in relation to the set-up has a large bearing on the end cost. However on average, depending on your location and your choice of trustee, you can be reasonably comfortable with a setup cost between $1,500 and $3,250.
Ongoing
Trusts are required to lodge an annual tax return, which incurs an accounting fee. Available data suggests this will cost between $1,000 and $2,000 each year. For trusts with a corporate trustee, an additional $321 ASIC fee is charged annually.
Additional tax advice throughout the year may also be necessary to optimise the tax efficiency of distributions, which would further add to the ongoing costs.
Benefits of a Family Trust
Income Distribution
The primary benefit of a family trust compared to holding assets personally is its flexibility in directing income to beneficiaries with lower tax rates. When assets are held personally, tax implications are tied to the owner. However, in a family trust, the trustee can allocate income—and thus tax obligations—to beneficiaries strategically, potentially reducing the family’s overall tax liability.
For example, if one partner in a family isn’t working and has minimal or no income, the trust can direct all income to that partner, significantly lowering tax costs compared to jointly owned assets, where income is split proportionally. Another option is to have assets held solely by the lower-earning spouse, but this approach limits flexibility if financial circumstances change, as transferring assets could trigger additional tax consequences. A trust offers the ability to adjust income allocations annually to fit each beneficiary’s financial situation.
Additionally, a family trust can direct income to other family members, such as retired parents or adult children with low incomes, further improving tax efficiency.
To express this potential benefit clearly, consider the scenario in which you have an investment that generates $60,000 in annual income and there is a difference in tax rates between you and your spouse. Would you benefit from a family trust?
Obviously, an investment generating $60,000 in annual taxable income is going to necessitate a large amount of capital. This does not mean a trust is not tax effective with a lesser amount of income generation.
Even with smaller amounts of income, a trust’s tax effectiveness depends on factors like the beneficiaries’ marginal tax rates. The ability to allocate income to beneficiaries with no income, such as retired parents, can lead to meaningful tax savings. However, the cost-effectiveness of a trust ultimately depends on whether these tax benefits exceed the associated costs.
For instance, a modest annual tax benefit might be outweighed by the trust’s annual holding cost, which can reach thousands. Some may still choose to invest through a family trust with an eye toward long-term benefits, even if initial tax savings are minimal. This is especially the case when long-term capital gains tax implications are considered; a family trust can distribute capital gains just as it does income, maximising the utility of lower-income family members in the process.
Asset protection
While tax efficiency is the most popular reason to use a family trust, its asset protection qualities can’t be ignored. Assets held within a family trust are generally safeguarded from personal liabilities because they are owned by the trust, not by individuals. This structure can protect family wealth from risks such as business debts, legal claims, or bankruptcy affecting individual family members.
As mentioned earlier, a key factor in a trust’s level of asset protection is the choice between an individual trustee and a company trustee. With an individual trustee, personal liability risks are higher. This is because the trustee legally holds the assets, meaning that a court could potentially view the trustee’s personal and trust-held assets as one and the same, putting them at risk.
In contrast, a company trustee provides an additional layer of separation. Since the assets are held under the company’s name, they are more effectively isolated from individual liabilities of family members.
That said, consulting a professional is essential, as asset protection benefits can vary widely based on the trust’s specific structure and circumstances.
Estate Planning
In a similar vein to asset protection, a family trust can facilitate a smoother transfer of inherited assets compared to assets held personally.
When a company trustee is used, the trust does not cease upon the death of whoever controls it, allowing it to continue seamlessly without changes.
This structure enables the assets within the trust to remain intact while control is transferred through the deceased’s will, rather than transferring ownership of each asset. Typically, this is achieved by passing on shares in the trustee company itself, effectively granting control over the trust and its assets without the need for direct asset transfers. This approach can help minimise probate complications, reduce potential delays, and provide continuity in the management of family wealth across generations.
Just like an improperly drafted will, an inappropriate family trust can cause just as many issues as it may solve. Legal advice is necessary when making plans in this regard.
Downsides
Outside of the cost to set up and run, family trusts do have some characteristics that may be negative for some scenarios.
Land tax
Land tax within a discretionary trust can be complex and often results in a higher tax burden than if the property were held personally. For example, in NSW, a discretionary trust does not benefit from the land tax-free threshold available to individual investors, meaning any property held within the trust may incur land tax, even if it wouldn’t when held in your own name.
Given the complexity of land tax for trusts, it’s essential to seek professional legal and accounting advice before deciding to hold property in a family trust.
Losses, Franking Credits and Family Trust Elections
A family trust cannot distribute losses to beneficiaries to offset personal income, meaning losses must be carried forward and applied to future income within the trust. This can delay potential tax benefits. Trusts also have an additional restriction on the distribution of franking credits to beneficiaries. In order to amend these issues, a Family Trust Election (FTE) would need to be made.
An FTE is an election made by a family trust to designate a specific family group as its beneficiaries for tax purposes. This limits distributions to only those within that group.
When a trust receives franked dividends, an FTE allows the trustee to stream franking credits to beneficiaries within the designated family group. Normally, beneficiaries would need to meet strict criteria, such as not receiving more than $5,000 in franking credits from all sources or satisfying the 45-day holding period rule for them to be eligible for distribution.
Beneficiaries of discretionary trusts often cannot meet these requirements, meaning they may lose access to franking credits. However, with an FTE, the trustee can satisfy the holding period rule on behalf of the beneficiaries, ensuring they can fully access and benefit from the franking credits attached to the dividends received by the trust.
An FTE also helps simplify the process for utilising trust losses. Without one, a trust would need to satisfy several complex tests to carry forward these losses and not lose their utility. However, with an FTE in place, the trust only needs to satisfy a lesser version of these tests, making it easier for the trust to offset future income with prior-year losses.
An FTE does come with drawbacks however, the primary one being the limitation of distributions to those within a legally defined family group. As an FTE is generally considered irrevocable, it’s crucial to seek legal and tax advice before going down this route.
Summary
The decision of whether to use a family trust should not be based purely on the potential tax savings. Choosing to utilise one will introduce considerable complexity into your otherwise relatively simple finances.
With that said, a family trust can be a powerful tool to grow wealth for a family group. It also offers asset protection qualities that could be vital in protecting that wealth.
This article offers only a surface level view of the benefits but also the complexity and disadvantages to running such a trust. So, if you are considering a family trust, specific legal, tax and financial advice should be sought in order to determine whether it is right for you and fits your personal circumstances.
