The Family Trust, commonly set up and sometimes referred to as a discretionary trust, are a popular business structure in Australia.
The main advantages of a family trust are the way in which the profits are distributed, while still providing for asset protection if you’re using a corporate trustee.
What Makes a Trust a “Family” Trust?
At the end of the day, “discretionary trust” and “family trust” are more often than not interchangeable.
For tax purposes though, a trust is not considered a “family” trust until a “Family Trust Election” is made.
What is a Family Trust Election?
A family trust election (abbreviated to FTE) is recommended in one of four scenarios:
- If the trust is carrying forward tax losses;
- If the trust owns a company that contains losses;
- If the trust receives franking credits on dividends; or
- If the trust distributes to another trust.
A Family Trust Election is something that your accountant prepares in your tax return in the year it is required as a once off. It is also disclosed each financial year after that on the front page of the tax return.
What is the Trustee of a Family Trust?
A family trust also does not stand alone – it requires what is called a ‘trustee’. In simple terms, the trustee controls the trust. You can choose this to be you (or more than one person) as an individual, or you can choose to have a company act as trustee.
A family trust is a separate entity to you as an individual as long as you have a corporate trustee. This means it runs its own books, and the business is distinguishable from the person running the business.
How Does a Family Trust Distribute Profits?
To distribute profits, the trust acts as a ‘funnel’ if you will. What I mean by this is that profits come into the trust, building up over the financial year.
They shouldn’t remain in the trust at the end of the financial year, otherwise the trustee of the trust will be responsible for paying the top marginal rate of tax (currently 47%) on the income of the trust.
Before the financial year finishes, a distribution minute is drafted and signed, which discloses to whom the profits are going to be distributed for the financial year.
Can You Choose What “Classes” of Income Goes to Which Beneficiaries?
This depends on the trust’s deed. If the trust deed allows for separation and distribution of different classes of income, then this is acceptable.
You may be able to separate the income into groups like:
- Franked dividends;
- Business income;
- Capital gains;
- and a catch all “other income” group.
Can a Family Trust Accommodate a Business Partner?
We wouldn’t recommend that you set up a family trust on its own to work with a business partner.
There are other options for this such as a company, unit trust or even a partnership of family trusts where you can set up the rules of working with the business partner.