In Season 4 Episode 1 Paris Financial Partners and Managing Director of www.Cotchy.io commented that the classic family trust still had a role to play in helping clients save tax.

LISTEN to the Episode

READ: Rebecca Mihalic’s response “When a family trust is not right for a trading entity@

From the Trenches is committed to showing what real life in the accounting industry ia and a key part of that, is sharing differing professional views.

In this response: Grant Abbott, founder of LightyearDocs shares trenches level reasons why a the humble family trust can work for trading businesses.

Views expressed in this article are the authors and we all encourage a positive conversation in the comments below. This article isn’t sponsored by anyone.

Trading Trusts are great but Leading Member Discretionary Trusts are the bees knees

1. What is a Discretionary Trust really?

A discretionary trust enables the Trustee of the Trust to:

Distribute capital to a range of beneficiaries (a person receiving a capital payment or asset of the trust);
Distribute income to beneficiaries including streaming specific types of income such as dividends, capital gains, interest and foreign income; and
Conduct business and other operations including investment for the benefit of the beneficiaries of the Trust.

In short, the Trustee has a wide range of discretion which it exercises generally each year, no later than 30 June so that the Trustee is not taxed on the trust’s income at 45%. By streaming income and specific types of income enables the Trustee to spread the income around ensuring that the tax liability is spread across the family thereby lowering overall family average tax rates. Plus having assets in a Trust protects them from beneficiary and trustee creditors.

Running a business through a trading trust provides a range of options, opportunities, tax benefits, asset protection and estate planning benefits that a company will never have. BUT the discretionary trusts that are used by most accountants are weak as they have no line of succession and do not look after bloodline beneficiaries only. And these are important to your client if you asked them that.

2. The most important part of a Trust that companies can never have and accountants forget

In a normal, off the shelf trust deed a person or company, named as the Appointor has the power to appoint and remove the Trustee. This may include themselves. In essence they control the Trust from behind the veil of the Trustee.

It is important to read that again. It is the Appointor that really controls the trust as they can hire and fire the Trustee. Like a director of a play backstage, the trustee and beneficiaries are the performers but the Appointor is the one who really controls the whole play.

However there are limitations with the Appointor being in control, not from the control perspective but we see too often no real time, resources or management flowing into appointorship and how is to be the successor appointor, the second successor appointor and so on down the chain of appointors. After all, with all your deeds:

What happens if the appointor dies or loses mental capacity? Is there a successor appointor available and what happens if they are dead? Is there a second successor appointor?
What happens if the appointor goes bankrupt? This may limit their capacity to act financially and also potentially put the Discretionary Trust under attack.
Who will be the appointor in fifty years’ time?
If there is a divorce and both spouses are appointors and trustees, expect tens of thousands of dollars to be torn up as both parties fight for control – which cannot be achieved unless going to the Supreme Court. And if a trading business will it be able to continue to trade in warring litigation?

Succession is the weakest link of many current discretionary and family trusts in Australia. But it does not have to be this way.

5. A Leading Member Family Discretionary Trust

A Leading Member Family Discretionary Trust focuses on the key role of Appointors and also the Trustee of the Fund. Think if you will, of all the Trusts that the Queen Elizabeth II of England has, and there are many. If something happens to her such as death or disability, there can be no indecision, no insecurity and no uncertainty. If something happens to the Queen the Leading Membership of the Trusts passes to the next in line for the Crown – currently Prince Charles then Prince William.

With a Leading Member Discretionary Trust, once the first Leading Member Appointor is appointed, the Leading Member:

Controls who can be the Trustee, including the appointment and removal of the Trustee;
Has the capacity to veto many of the decisions of the Trustee, much the same as the Queen has power to veto decisions of the English Parliament;
Can determine when the Trust is to be wound up and also through their veto power, which beneficiaries are to benefit from the Trust and in what case;
Importantly limit the beneficiaries to lineage of the Leading Member or those persons or entities at the discretion of the Leading Member.

6. Leading Member Succession – the Royal Key

The succession in the monarchy in England and many countries where there is a monarchy is well settled. Likewise, the Leading Member Family Discretionary Trust provides for a pre-determined succession plan going down one, two or more generations. It is an important decision to be made up front as a families wealth and control is in the hands of the Leading Member.

In planning for a Leading Member Family Discretionary Trust, as a protection for all the family’s wealth in the Trust, the only question that needs to be asked is: Who is the next Leading Member? Who then? Who then? Who then?

7. The How To?

If you already have a Discretionary Trust it will need to be carefully upgraded to ensure that the benefits of Leading Membership are embedded into the Trust and that a new Trust is not created. This would result in a closure of the old Trust and potential capital gains tax and stamp duty issues with the transfer of existing assets of the Trust shifted to the new Trust.

However the Commissioner of Taxation has released a tax ruling on resettlements and provided the upgrade of the deed is completed in accordance with the variation or deed amendment clause then there should be no resettlement and no capital gains tax or stamp duty issues. The Commissioners ruling is TD2012/21 and a must for all accountants to read to put to bed the myth that a minor change to a trust deed is a resettlement. In the Commissioner’s view a trust can change beneficiaries, trustee, appointor, vesting date and powers and still not give rise to a new trust. So upgrading from a discretionary trust to a Leading Member Discretionary Trust can be achieved without resettlement. Upgrading can be completed on the LightYear Docs portal at www.lightyeardocs.com.au

Now if it is a new Leading Member Trust then there are a number of important tasks to be completed by us:

Determine the Leading Member and successor Leading Members;
Determine who is the Trustee – this is the Leading Members decision and generally is a company;
Place any limitations on who can be a beneficiary such as only “lineage of any Leading Member or the former Leading Member”
Determine who is the settlor of the Trust – a task we will do for you as the Settlor contributes $10 to set up the Trust at law but has no further active control and is prevented from being a Trustee, Leading Member or beneficiary;
Build the Leading Member Trust Deed on the LightYear Docs portal;
Apply for an Australian Business Number and Tax File Number;
Set up a bank account for the Trust
Get into the business of being a Trustee and investing the monies of the Trust or running a business.