are a popular choice of structure for carrying on a business in Australia. The main advantage is having the discretion to distribute profit to different individuals to whatever extent from year to year to achieve a lower rate of tax. When combined with a corporate trustee, you can increase your level of asset protection while retaining that discretion. What’s not to love!!
Well, a couple of things actually, there are some potential pitfalls that you need to watch out for when operating a trust. Here are the most common ones (and how to avoid them if possible)…
It’s all in the Family:
The vast majority of Trusts in Australia are Family Trusts. Just because your trust deed says “Family Trust” on the title doesn’t automatically make it a family trust. A Trust must elect to become a family trust with the ATO. If this isn’t done, the trust may find it harder to recoup prior year losses, and may lose franking credits in certain situations. Your accountant will be able to determine whether a trust has made a family trust election and in which year. It may be possible to backdate the election so it applies to prior years.
Some Trust deeds (mainly the older ones) do not adequately define what income is. This can cause tax issues if your trust earns franked dividend income or makes a capital gain. Have your lawyer or accountant review your trust deed. A deed of amendment may be required to recognise different types of income.
Streaming refers to the practice of distributing different types of income to different beneficiaries. Namely, franked dividends capital gains, and all other income. For a trust to have this ability, it must be specified in the trust deed. In addition, the trust deed must be able to recognise these types of income (above). Income definitions and streaming are tightly interwoven. In certain situations, it may be beneficial for tax purposes to allocate different types of income between beneficiaries. Have your lawyer or accountant review your trust deed. A deed of amendment may be required to allow streaming.
It is no longer a very tax effective strategy to split trust income with your children (it used to be). Minors pay tax of up to 47% on unearned income and no longer have access to the low income tax offset. And while you could distribute $416 of trust income per child without tax consequences, the tax savings are… well, minor.
Losses and Franking:
If your trust receives franked dividends and still makes a net taxable loss for the same year, the offset from franking credits is lost. There may not be a lot you can do to prevent this situation from arising. If possible, curb your spending in the lead up to 30 June if there’s a possibility of the trust making a loss.
This is by no means an exhaustive list, and depending on the complexity of your tax affairs there are other issues out there to be mindful of. If you require advice specific to your situation, please contact Optima Partners.