What is a Trust and how does it work?

There are lots of good reasons for establishing a Trust to better meet your financial, investment and estate needs, writes Susan Bonnici, Estate Planning Solicitor at Equity Trustees.

Put simply, a Trust is a legal agreement between you (in this context, you would be legally referred to as ‘the settlor’) and a trusted person or organisation (the trustee), to hold assets such as cash, real estate and other investments for the benefit of someone else (legally referred to as ‘the beneficiary’).

The trustee manages the trust and is the legal owner of the trust assets. Trustees have a duty to carry out the terms of the trust, act in the best interests of all beneficiaries, and avoid conflicts of interest or resolve them if they arise. Above all, a trustee must be impartial and prudent.

Different types of trusts

Several different types of trust structures exist in Australia, each with a different purpose. For example, to protect and transfer wealth and business assets, provide flexibility in distributing income and capital to beneficiaries across generations, manage superannuation assets, and establish regular giving to charitable causes.

Some of the more popular trust structures are:

Family trusts

Usually established during your lifetime to protect your family’s assets or business ventures. Some people also use a family trust structure to take advantage of tax benefits.

Super proceeds trusts

Established to hold superannuation death benefits. These types of trusts are typically created as part of an estate plan to manage super proceeds for minor beneficiaries or dependents rather than them receiving these payments directly as a lump sum.

Special disability trusts

Created by parents, guardians or close family members to support the present and future needs of a person with a severe disability.

Compensation trusts

Usually created under a court order when funds have been paid to a person as compensation for an injury.

Minor’s trusts

Set up to manage and protect the assets of a child until they come of age. This may include assets they have inherited.

Charitable trusts

Have the sole purpose of benefiting a particular charity or charitable purpose on a regular basis. They can be established during your lifetime or as part of your Will.

Why and when would you need a Trust?

In thinking about why you would want to establish a trust, it’s worth asking some key questions:

• Do I have complex assets that require professional stewardship?
• Do I have a family member who is unable to manage their affairs due to intellectual impairment or addiction?
• Do I have a family member who is at risk of divorce, bankruptcy or litigation?
• Am I part of a blended family?
• Would I be interested in tax savings for my beneficiaries?
• Would I like to support charitable causes now or as part of my estate?
• If you answered yes to at least one of these, it may warrant starting the process of establishing a trust.

Testamentary trusts – a case study

Many people these days consider testamentary trusts as a means of transferring their estate. Instead of beneficiaries receiving your estate outright into their own name, putting assets in a trust structure means your beneficiaries will receive their entitlements according to the trust terms.

For instance, you may have a family member with a drug and alcohol addiction. A trust structure offers a way to look after them by providing regular income or direct payment of their essential living expenses, rather than leaving them a lump sum that could be mismanaged.

A testamentary trust can also enable giving to regular payments to a charity, not only during your lifetime but long after you have gone. And unlike most other trusts which have a life of 80 years, charitable trusts can continue forever.

With a testamentary trust, you can choose for it to be either fixed or discretionary. A fixed arrangement is where your beneficiaries’ entitlements are clearly defined and cannot be changed in anyway. For example, assets may be held in trust for a child until they reach a certain age or trust funds may only be used for purposes set out in the terms of the trust.

A discretionary trust gives the trustee a lot more flexibility in how much, when, and which beneficiaries assets income or assets are given to. This is particular useful for those beneficiaries suffering more hardship than others, or to protect those who may be caught up in a personal or legal dispute.

Discretionary trusts can also be used in a tax effective manner by minimising the overall tax paid by beneficiaries. For example, the trustee may decide to split income or assets for a beneficiary over different financial years, or to distribute a larger share of the trust income to beneficiaries with a lower taxable income, which could result in their tax bill being more manageable.

It’s worth noting that discretionary testamentary trusts must wind up or ‘vest’ within 80 years, with all assets distributed.

Conclusion

In order to establish a trust suitable for your current or changing circumstances, as well as those of your loved ones, you should always get proper legal advice, ensure you have a good succession plan for who is going to control the trust after your death or incapacity, and never sign anything you don’t understand.

It’s also a good idea to get advice from an estate planning specialist to find out whether a trust could suit your family’s needs and goals.