What is a discretionary trust?
A trust is a legal relationship defined by the obligation of a “trustee” to hold or invest property for the benefit of certain beneficiaries. There are many types of trusts, however, the most commonly dealt with trust structure in family law is a “discretionary trust”.
Persons included in a class of “potential beneficiaries” in a discretionary trust only have the right of due administration of the trust, but not the assets of the trust until the trustee determines to make a distribution of the assets (whether capital or income). The trustee has the ultimate discretion as to:
- Who will receive the income; and
- Whether an income or capital will be paid at all.
Therefore, at most, as a beneficiary of a discretionary trust, you have the right to be considered for potential receipt of income. You will have no fixed right or expectation to receive any money from the trust.
Discretionary trusts are often set up by families as a method of asset protection. At times, the protection is dubiously designed to minimise the risk of losing the property to a hard-fought family law property settlement.
How family law deals with discretionary trusts can become quite complex, and will often depend upon the terms of the Trust deed. The Family Court’s financial powers are expansive and powerful. You would be best off taking a copy of your deed to your family law solicitor and asking for advice.
How is a trust included in a property settlement?
The treatment of property held in a family trust can be dealt with under the Family Law Act. There is no need to approach the general civil law courts that usually deal with trust law issues, such as the District or Supreme Courts.
When people apply to the Court to seek a family property settlement, they do so under s79 Family Law Act, which refers to an “alteration of property interests”.
The Family Law Act defines “property” in a broad sense so that it includes property you own fully and property that you are entitled to own upcoming the happening of an event such as the repayment of the mortgage. A person’s interest as a beneficiary of a discretionary trust is often not property at all, but rather a potential financial resource of the parties. This means that your interests may not be ignored. Further, the Court has the power to Order that certain property owned within the trust structure is transferred to either you or your spouse. Of course, such intrusive orders are not obtained easily and often require parties to establish a link between the controller of the trust and the family law litigant.
Will taking property out of a trust affect my tax position?
A property settlement should effectively untangle the web of family wealth built up over the relationship. This could mean transferring assets between spouses or between family-owned companies, trusts and partnerships. The transactions can be complex, and there are a number of different types of taxes and duties that could apply to certain transfers.
Capital Gains
If property is transferred from one person (whether an individual, company or trust) to another person, this is a ‘disposal’ of property. The buzzword here is capital gains tax (CGT). Usually, CGT applies to any change of ownership of an asset. However, if:
- the asset is transferred between spouses/defacto partners, or from a family-run company or trust to a spouse; and
- the transfer occurs because of a court order or formal agreement;
an automatic rollover will apply to ignore any capital gains tax on the transfer.
The spouse or de facto partner receiving the asset will also inherit the original cost base. Therefore, in the future, when the spouse finally sells the property, capital gains tax will be calculated based on when the property was first purchased and not when the property settlement occurred.
However, the CGT rollover is not always available. If for example, the property settlement agreement provides for the asset to be transferred into a trust instead of to the spouse directly, the exemption is not likely to apply.
Stamp Duty
A change of ownership of property will trigger a stamp duty liability for the person receiving the property. Generally, in NSW the recipient of the property will not have to pay stamp duty if the transferred is contemplated in Court Orders or a formal agreement after the breakdown in your relationship.
However, things get much more complicated when you are transferring assets out of a family-owned or run company.
Can I receive a settlement payment from the Family Business?
Transfers or Payments from family-run Company to a spouse
It is common for families to keep wealth tied up in family businesses. After separation, the parties might agree that certain assets are transferred out of the family company and to one of the spouses.
If this is a scenario that you are considering, it is important that you get tax advice. In recent years, tax rulings have stated that cash payments or transfers of property from a private company to an individual in family law proceedings will be treated as the payment of dividends from that company. If the transfers are considered payments of dividends, then the transfer will be subject to income tax. This can have a huge impact on the net value of the asset or payment to the spouse expected to receive from the property settlement. Often, the advice of a good tax agent or accountant will go hand in hand with the legal advice from your lawyer.
Talk to our Family Trust Lawyers about the division of your assets in your separation.
Our experienced Family Trust Lawyers in Sydney & Parramatta can provide discrete and practical legal support to help you make realistic and informed decisions. We are motivated to achieve a fair result, without unnecessarily worsening your existing family relationships. We understand that your first priority is to achieve smooth and discrete resolution of your family law matter.