How you can benefit from a family trust

When it comes to planning your financial affairs, the family trust structure is certainly worth considering. It allows for income to be distributed through the family and helps with reducing tax.

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Of all the ownership structures available today, the trust is the least well understood. The concept of a trust derives from 16th century England and was used by wealthy land owners to avoid having to pay death duties. While death duties no longer apply in Australia, it remains a very useful legal device which can help families better arrange their financial affairs.

The family trust is commonly perceived as an exclusive vehicle of the super-rich. In fact, even families with modest assets can benefit from a family trust1. They are a great way to protect assets, maximise wealth, reduce tax and provide financial security for family members.

What is a family trust?

A trust typically involves the following:

  • The settlor creates the trust by signing a trust deed and making the initial contribution to the fund
  • The trustee manages the assets of the trust fund in accordance with the trust deed
  • The beneficiaries are entitled to receive payments of income and assets in accordance with the rules of the trust deed

There are several types of trusts but the most popular type is the family discretionary trust. The word ‘discretionary’ as opposed to ‘fixed’ is used, as the trustee has a discretion under the trust deed on how and when to make distributions to beneficiaries. This flexibility is a major advantage from a tax planning and asset protection perspective.

The main advantages of using a family trust

Establishing a family trust to own income producing assets like cash, fixed interest, investment property, shares, managed funds or a business allows you do all of the following

  • make provision for your family, including young children and disabled
  • attach certain conditions to giving a gift, such as completing education
  • protect assets against creditors and lawsuits
  • invest through a tax-effective investment structure
  • pass wealth through generations (in addition to your will)
  • act similar to a superannuation fund but without the regulation and restrictions on what type of assets you can invest in
  • pool assets together to maximise investment return

Consider this example of how a family discretionary trust might be used to a family’s advantage:

John and Mary have set up a family trust for the benefit of themselves and their children. They name themselves as trustees, and themselves and their children as beneficiaries. After establishing the trust, over time that they use it to purchase two investment properties and a portfolio of index funds, stocks and bonds.Mary works a regular job and pays high marginal tax rates while john is self-employed and his income is variable. The trust distributes most of the rental and investment income to John to take advantage of his lower marginal rate and then smaller amounts to Mary and their children to reduce the overall tax burden. 

One day when John is sued by a creditor and has to declare bankruptcy, the assets of the family trust are protected as they are owned by the trust and not by him personally. 

When John and Mary pass away a new trustee is appointed and the children continue to receive distributions from the trust assets.

Setting up a family trust

Despite the perception that family trusts are only for the rich, it’s neither expensive nor particularly difficult to set one up.

The first step is to draw up the trust deed. Consult a legal professional for this to ensure the deed is drafted to suit your circumstances and you receive advice during the process. A settlor, who usually is unrelated and has no further involvement in the trust, will then transfer some property, usually $10, to the trustee. Depending on which state you live in, you may need to pay some stamp duty. The trust is now established.

Managing the trust

Once established you can make gifts to the trust or purchase assets through the trust. These assets will be held by the trustee for the benefit of the beneficiaries who will typically be current and future family members.

The trustee will from time to time make distributions of income, and also capital if desired, to the beneficiaries. This can be done in a way which makes the best use of all beneficiaries’ tax-free thresholds and marginal rates meaning the overall tax paid will be considerably less than if it were taxed in the hands of one individual.

Unlike companies and superannuation funds, private family trusts are almost completely unregulated. There is no public register and they are not obliged to provide annual reports which are great from a privacy perspective. There are no ongoing compliance costs. A trust does, however, need its own Tax File Number and will need to lodge an annual tax return but usually the beneficiaries will pay tax on any distributions received.

Negative Gearing: Why Plan to Lose When You Don’t Have To?

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With all the talk of tax and household budgets, negative gearing is currently getting a lot of air time. On the flip side, not a whole lot of attention has been given to positive gearing and what this can bring to your bottom line.

Generally speaking, the status quo errs on the side of caution by negatively gearing their investments in order to reduce their tax bill. When it comes to purchasing an investment property, the question you should be asking yourself is whether you want to generate a constant return or a deduction.


Many happy returns


It’s a commonly held perspective that the main disadvantage of positive gearing is the reality of a higher tax bill. This is due to the fact that you’ll be earning an income from your investment, but that’s not necessarily a bad thing. Any investment decisions you make should be firmly focused on generating the greatest returns possible, not on minimising tax.


Growing gains


While there’s nothing wrong with prioritising a tinier tax bill, it can prove a short-sighted game plan. By positively gearing your property, you’re generating a constant return instead of covering a shortfall, which could put you ahead in the long run. Because you’re making a profit from day one, this will give you a higher income to either save for your next investment or pay down your principal.

Keep in mind a simple scenario: If you spend a dollar and the taxman gives you 30 cents back, this is negative gearing. If you make a dollar and give the taxman 30 cents, this is positive gearing. The question is – do you want 70 cents in your pocket or a 30 cent tax deduction at the end of the year?


Think positive


If you’ve already bought a property and you’re currently negatively gearing it, there’s room to change tack. With a few simple shifts, it’s possible to transition from negative to positive. You have the option to add value by renovating or increasing rents, allowing you to pay off your loan faster. However, the quickest way to transition to positive gearing is by reducing your loan balance with a capital injection.


Accountable accountants


If you’re worried about the tax implications of positively gearing, involve your financial advisors early in the process. This way, they can help you structure your investment to best fit your situation.


A plan of attack


There’s a myriad of ways you can approach your investment, but before taking the property plunge, make the time to clearly outline your objectives with a distinct path to achieving them.

Essentially, investing in property is about planning for a more secure future, so if you’re looking to get the most out of your investment, it’s worth considering how positive gearing could help you get there faster

What questions should you be asking your accountant

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Once you’ve found the right accountant it’s time to put them to work. From finding out about your cash flow to managing your debt ratio and investments, a trained professional accountant should be your trusted advisor, so what should you be asking them?

Don’t make any financial missteps or potential blunders, don’t miss out on opportunities and new tax saving opportunities. Investing in a good accountant means you shouldn’t miss red flags and you should get the best advice for your business and bottom line.

So find out what to ask and when.

#1. When should I get in touch and how? – Communication is the cornerstone of creating a healthy relationship with your accountant. From the beginning, you need to establish a framework that outlines how you will communicate (Skype, Google Hangouts, FaceTime, email, phone) and how often (weekly, monthly, quarterly).

#2. How can you help me with my taxes and how should I prepare? – Tax help is one of the biggest reasons why small businesses hire an accountant in the first place. Find out what credits and deductions to claim, and how to maximise asset write-offs. So you’re not flustered next June, get your accountant to help you gather all the right documents and data throughout the year.

#3. Can you help me weigh up financial decisions? – From cash flow and investments to debt ratios, you want your accountant to give you their two cents worth on the financial ramifications of the decisions you are considering making.

#4. How can I scale or grow my business? – Your accountant can help you hone in on areas of growth and identify spots that will accelerate your business’ development. On the flip side they can also help you scope out what’s holding you back and where to focus your efforts on improvements.

#5. How can you help me with my cash flow? – An oldie but a goodie. Ask your account to help you create a cash flow model so you can better respond to shortfalls and manage your receivables and accounts payable.