💡Key Insights
- From 1 January 2020 proposed changes to discretionary trusts in Australia were intended to tighten tax rules so trust distributions and concessions are aligned with the law’s original policy objectives and reduce misuse.
- One major focus of the changes was on tightening integrity rules in Division 7A to prevent private company profits from being distributed through trusts to avoid tax, increasing compliance obligations for trustees.
- The reforms also aimed to clarify how trust losses and streaming of capital gains are treated so taxpayers and advisers have greater certainty about tax outcomes when distributing trust income.
- Trustees were encouraged to review trust deeds, distribution practices and tax strategies before the changes took effect to ensure compliance and avoid unintended tax consequences.
Discretionary trusts (also known as ‘family trusts’) are a good way to ensure asset protection, distribute capital and take advantage of tax benefits in New South Wales. In these, a person (trustee) takes legal ownership of a property for the benefit of another person or persons (beneficiary/beneficiaries).
Under discretionary trusts, the trustee distributes the property, assets or proceeds amongst the beneficiaries at their discretion. The terms of the trust limit this discretion.
For a complete breakdown of how a discretionary trust is formed and why it used, read our previous article here.
For this article, all you need to know is that the beneficiaries are the ones who pay tax, duties and surcharges on the distribution of the assets.
This is why, for example, parents may create discretionary trusts with their children as beneficiaries. As the children likely earn less money than the parents, they will pay lower tax rates on the distributed profits.
This is not tax advice and we advise obtaining your own advice from an expert.
Changes to discretionary trusts
The State Revenue Legislation Further Amendment Bill 2019 (NSW), proposes changes regarding the classification of ‘foreign beneficiaries’ within discretionary trusts. The proposed changes are effective at midnight (12:00 am) 31 December 2019.
Relevant to discretionary trusts is the change to how ‘foreign persons’ classified within a discretionary trust. Currently, it is based on factors like residency and citizenship.
Instead, it will be based on whether the beneficiary could potentially be foreign.
What this means is that the terms of the trust must now explicitly state that the beneficiary cannot be a foreign person.
This may mean that, under your current trust agreement, you or another party may be classified as a foreign person.
How this may affect your discretionary trust
Currently, in New South Wales, foreign persons pay an 8% surcharge purchaser duty and 2% surcharge land tax on residential-related property. This will be paid on any trusts that include foreign trustees or beneficiaries.
Under the proposed Bill, it doesn’t matter if you or the beneficiary are Australian citizens. At law, a foreign trust will exist unless the agreement specifies that the beneficiary cannot be foreign.
What you may need to do
Fortunately, you can be exempt from the surcharges or will be refunded if you have already been charged. You just need to amend the terms of your trust before midnight (12:00 am) 31 December 2019.
The terms just need to exclude the possibility of a foreign beneficiary to be effective. This will, of course, require compliance. You cannot include this term if the beneficiary is actually a foreign person.
Contacting a lawyer is the best way to ensure compliance.
Take note: you cannot later amend the clause preventing a foreign beneficiary to then allow one.
Summary
The proposed changes pose a blanket effect to any discretionary trusts existing in New South Wales. Ensure you avoid these changes by being proactive and reviewing your agreements now.
We recommend keeping up to date where possible as this is an ongoing process.
