Whilst many of the following concepts are familiar to accountants and financial planners, Leigh Adams Commercial Lawyers points out seven twists which are often overlooked when advising clients on estate planning issues.
Tax and Testamentary Trusts
It is a common error to only have one discretionary testamentary trust for all beneficiaries in the will. Where this occurs, and the trust is to vest (finish) in respect of each discretionary beneficiary when that beneficiary reaches say 25 years, CGT Event E5 (beneficiary becoming entitled to trust asset) occurs on that beneficiary’s 25th birthday. If the trustee exercises their discretion to allocate some part (usually a proportionate part) to that beneficiary on turning 25, capital gains taxes become crystallised at that point as the beneficiary will become ‘presently entitled’ to that part of the trust assets.
However CGT Event E5 will not occur where there is only one beneficiary of a testamentary trust who becomes presently entitled to the assets as there is no change in the beneficial ownership when the trust vests.
If CGT Event E5 does not occur, then capital gains tax is avoided. Tax saved is money earned.
Call us if you want to avoid CGT Event E5 occurring. As an accredited specialist in business law, Leigh can talk through the options with you.
Forgiveness of unpaid present entitlements
Many trustees declare distributions but never actually pay the money to the beneficiary entitled to it, preferring to use the money for working capital. Sometimes the money is withheld for asset protection reasons if the beneficiary is say, a medical specialist (high income and high risk of being sued). Each unpaid distribution is an asset of the individual beneficiary concerned and on their own death it is dealt with under their own will. This raises further asset protection issues as the asset will have to be dealt with according to the will of the deceased beneficiary.
Why not forgive the debt prior to the death of the beneficiary? If it can be forgiven, then there is no asset to be included in the beneficiary’s estate and no possibility that it will then pass to someone that the trustee of the original trust does not approve of.
Section 245 – 40(e) of the Income Tax Assessment Act 1997 (ITAA 97) provides that where a debt is forgiven for reason of “natural love and affection”, the commercial debt forgiveness rules do not apply.
ID 2003/582, withdrawn 5 April 2012 but according to the ATO its view remains unchanged, states that love and affection does not need to be between a creditor and their debtor for the “love and affection” exception to apply.
In addition ID 2003/589 states that the creditor does not have to be a natural person for the exception to apply. Owen Hodge Commercial Lawyers infers that therefore the debtor also does not have to be a natural person for the exception to apply.
So properly worded, the debt can be forgiven and the trustee of the original trust can then distribute the unpaid present entitlement to another (low risk) beneficiary.
Use of flexible life interests
Where an asset (like the family home) is left to a beneficiary (say, the children of Georgina’s first marriage) with another beneficiary (say John, Georgina’s spouse in her second marriage) being granted the use and enjoyment of the asset during his lifetime, a life interest is created.
As regards capital gains tax, the family home (or other asset) will be taken to be owned by the children for the entire period during which the life interest exists and section 118-195 of ITAA 97 provides that the benefits of the main residence CGT exemption will not be lost for the period John occupies the residence. But the life interest is itself an asset and if John chooses to vacate the residence before his death then he may have his own CGT problems to contend with. That’s why, particularly in this day and age where people are often living to a ripe old age, Georgina should give John a “flexible” life interest. This will enable John to move from main residence to retirement village to aged care facility to hospital etc. without incurring any tax associated with the life interest.
Flexible life interest clauses can take many forms. Email us or call us on 02 99640022 and we should be able to draft one suitable for your circumstances.
An appointor is someone who can sack a delinquent trustee and appoint a new (non-delinquent!) trustee in their place. The appointor has ultimate control of the trust. Old trust deeds and many new off-the-shelf trust deeds frequently do not provide for successive appointors. The purpose of having successive appointors is to allow retention of control of a trust for multiple generations. For example, as successive appointors, you could have a mother and father acting jointly then the survivor of them (jointly with a named independent person once the survivor gets to, say 75) then on the death of the survivor, their children jointly (with or without an independent person depending on their age and capacity).
You could even have the children of a deceased child become an appointor. Call us on 02 99640022 for an explanation as to how this might work in your circumstances.
Exclusion of appointors on their bankruptcy.
Does the power of appointment of an appointor form part of the appointor’s bankrupt property and is it therefore exercisable by the appointor’s bankruptcy trustee? Despite Burton LR and others v Wily HJ  FCA 338 at , the answer to this question is not clear.
To avoid the control of the trust falling into the hands of a creditor, Owen Hodge Commercial Lawyers can insert a provision into the trust deed to the effect that the office of appointor becomes vacant if the appointor or trustee becomes bankrupt or a trustee is wound up.
What about a corporate appointor?
This is not as silly as it sounds, although they are uncommon and particularly rare in testamentary trusts. But they have advantages, such as:
(i) if a business group consists of a number of trusts, then having a single appointor across all trusts can give consistency of control across the group, and
(ii) changing the appointor is easy because changes to the corporate appointor will flow through to all trusts.
Good estate planning is all about having the appropriate business structures in place. It gives peace of mind and it allows you to enjoy your holidays more!
Trusts and intergenerational control
A brother and sister each inherit 3 ordinary shares of the 6 ordinary shares on issue in a corporate trustee. They have equal voting rights and each is a director.
The brother dies leaving 3 children of his own, each of whom inherit 1 ordinary share.
As the company constitution requires over 50% for a shareholder resolution to be successful, the surviving sister could prevent the children of her deceased brother from ever becoming a director.
The surviving sister could then continue to control the trust and administer it for the benefit of her own family, leaving her brother’s children out to dry.
This could be avoided by giving the brother and the sister a separate class of shares with each class of shares giving a right to appoint a director of the corporate trustee.
If you need to establish, review or vary a trust deed, call Leigh Adams Commercial Lawyers on 02 9964 0022 now and ask for one of our estate planning team. We get you there.
Other articles of ours can be found at the Owen Hodge Blog, with further information about taxation of trusts in Australia and many more legal issues.