A family trust can be an excellent way for parents and small business owners to protect their children’s financial futures. However, they are not a guaranteed safeguard. So, should you set up a family trust? That’s the question we’re here to answer.
There are several advantages and disadvantages of family trusts that you must carefully weigh. But, if correctly set up and diligently managed, a family trust can be a significant advantage — especially come tax time.
What is a Family Trust?
A family trust is a discretionary fund that holds valuable family assets and distributes income to its beneficiaries.
In Australia, family trusts are established by trustees, typically the parents. The trustees can fill their family trust with profit from their family business, and the trust will then distribute that income to its beneficiaries: the children, grandchildren, and their spouses. The trustees determine the value of the distribution each beneficiary receives.
How a Family Trust Works
A family trust works by reducing your business’s tax obligation to the ATO.
Much like a company structure, a family trust prepares a set of annual financials and lodges a regular trust tax return.
- Profit is calculated at the end of the financial year (income minus expenses plus the previous year’s losses) and then distributed to the beneficiaries.
- Distributions received from a trust form part of the beneficiary’s assessable income. If the beneficiary receives income from other sources, all their income is taxed together.
- The trust doesn’t pay tax, so beneficiaries are taxed on the amount of income placed in their name. If the business being run via the trust generates more than $75,000 of income in a financial year, then the trust is required to register for GST.
Why Establish a Family Trust?
The primary purpose of a family trust account is to protect your income by reducing your tax obligations.
There are three key reasons why you should set up a family trust:
- Your family business is growing
- You have new business opportunities
- You need to structure your investments properly
Example: Why You Should Set Up a Family Trust
If you operated as a sole trader and earned $200,000 in a year, you would be obligated to pay approximately $65,000 in tax.
Instead, you could place your profits within a family trust to lower your tax obligation. Then, you can have the trust distribute a portion of the profits to you and the other beneficiaries.
Except in certain specific circumstances, the trust does not pay tax. Rather, the beneficiaries are taxed at their personal tax rates, which are likely lower than the corporate tax rate you would have otherwise paid.
In this example, if each beneficiary receives $66,600 from the trust, the combined total tax owed would be around $40,000.
In the end, your family trust has saved you $27,000.
When Should You Set Up a Family Trust?
The best time to set up a family trust is if you run a family business and:
- Profits are growing
- The business is expanding
- Your average tax rate is approaching 30%
In these instances, a family trust can help reduce your tax rate. A family trust can also act as a holding structure if you’re making significant investments. It can protect those assets from financial and legal troubles and save you taxes along the way. However, entering into a family trust isn’t a simple decision. It requires careful thinking and planning for the future of your business and investments.
Family Trust Advantages and Disadvantages
Advantages of Having a Family Trust
Tax Efficiency
- Family trusts make your business tax-effective by distributing income and capital gains across family members according to their tax rates.
- The profit of a business that gets too large can be distributed to a separate company to cap the tax rate at 30%.
Investment Efficiency
- A family trust can hold investments tax-effectively by distributing dividend income in a tax-efficient manner.
- If trust assets are sold after 12 months, the trust can receive a capital gains concession.
Asset Protection
- A company can be set up to act as the trustee, giving you access to the limited liability advantages of a company structure while retaining the tax flexibility of a family trust.
- A family trust can protect significant investment assets from personal financial and legal issues.
Disadvantages of Family Trusts
Limited Beneficiaries
- Family trusts can only distribute to lineal family members, limiting growth beyond the family.
Scalability Issues
- As profits exceed $500,000 per annum, tax planning becomes more challenging, and a company structure might be more suitable.
Limited Access to Government Grants
- Family trusts likely cannot access many government grants and tax concessions, such as the Research and Development tax concession or Early Stage Investor Concessions.
Ongoing Maintenance
- Family trusts require ongoing accounting and tax advice, starting at $1,500 plus GST for simple trusts and increasing with complexity.
How Much Does It Cost to Set Up a Family Trust?
In Australia, establishing a family trust generally costs $1,500 (plus GST) in legal documentation or $2,500 (plus GST) for a trust with a corporate trustee. The cost can vary based on the complexity of your assets and financial goals.
How to Set Up a Family Trust in 8 Steps
- Determine Your Fund’s Trustee(s)
- Typically, you would nominate yourself as trustee or have a corporate trustee with yourself as the company director. Alternatively, you can choose a third party.
- Identify Your Beneficiaries
- Beneficiaries are typically within your family unit, and their entitlements are outlined in the trust deed.
- Draft the Trust Deed
- The deed outlines all trust arrangements and legal proceedings for managing the trust.
- Settle the Family Trust
- The appointed settlor, usually an individual unrelated to the family, provides an initial lump sum to the trustee.
- Sign the Trust
- After the settlor signs the trust document, the trustee(s) hold a meeting to agree on their appointment.
- Stamp Duty
- Stamp duty varies between states and territories. Some states require stamping by the relevant revenue authority.
- Apply for an ABN and TFN
- An ABN and TFN must be lodged for the trust to become active.
- Open a Bank Account
- Open a trust bank account in the trustee’s name, with the first deposit being the settlement amount.
Should You Have a Family Trust? The Big Question Answered
While family trust tax and asset protection benefits are clear, it’s essential to fully understand the structure before entering into one.
To decide if you should create a trust for your family business, ask yourself:
- Am I expecting more people to join my business?
- Am I expecting anyone to exit the business?
- Do I intend to sell my business for a significant capital gain, or do I want to issue shares to existing employees?
- Do my family or I plan to take advantage of government grants or tax concessions?
- Am I prepared to keep strict financial records?
A family trust might be right for you if you need a tax-effective plan to protect your family and business assets.
Need Help Setting Up a Family Trust?
Our accountants help families across Australia set up family trusts. If you’d like an in-person meeting, we have offices in Geelong, Gold Coast, Mallee, Malvern, Melbourne, and Port Macquarie.
For expert guidance on setting up a family trust, contact BOA & Co. Financial Group at 1300 952 286, email info@boanco.com.au, or visit our website at www.boanco.com.au