To Trust Or Not To Trust?
There are both benefits and downsides to putting your investments into a trust, writes Theresa Donnelly, senior solicitor at Public Trust.
1 August 2019
Trusts have been a popular means of protecting wealth for many years in New Zealand, and with good reason. They protect assets for individuals and their families with the ultimate aim of preserving or growing the assets for the future.
When you purchase an investment property, the ownership structure you choose can have implications on your tax status and impact your overall financial situation. Trusts are an increasingly popular ownership option for property investors, but establishing a trust is not something to be taken lightly. Doing so brings a raft of considerations – no less so in the case of property development. Understanding the workings of a trust is key to deciding if this structure is the best way of protecting your property investments.
Who Are The Parties Involved In A Trust?
There are three parties to a trust – the person or persons who set up the trust (the settlor(s)), the people the trust will benefit (the beneficiaries) and the trustees who run the trust and look after the assets for the benefit of the beneficiaries.
A trust deed sets out the details of how the trust will operate. It can provide for advisory trustees, who may be consulted by the trustees when making decisions, and provide for a hierarchy of beneficiaries – discretionary beneficiaries and those who will take the assets when the trust comes to an end (final beneficiaries). If the settlors are included as discretionary beneficiaries, often the deed will set out that they can be preferred as “primary beneficiaries”.
Is Your Trust Future Proof?
Future proofing is important when drafting a trust deed. It may mean that a deed provides for the ability to vary the deed itself to adapt to changing circumstances. Amending or winding up a trust does come at a cost, it requires agreement among trustees and it may have tax implications. When setting up a trust for property ownership, it’s important to consider your investment objectives, how you want to manage the assets and what you may need to do now and in the future.
It’s important to consider whether you want powers of resettlement included in your trust deed. An example of this may be where you have entered into a joint venture with a spouse or partner. This can enable you to resettle into separate trusts for each of you if you go separate ways.
What Is The Role Of Trustees?
Once a trust is set up, there are a number of ongoing obligations for trustees, including holding an annual review, playing an active part in all trust decisions and providing regular updates to beneficiaries.
New Zealand settlors often think of trust property as still being theirs, but it’s not. Under a trust structure, trustees hold legal ownership of trust property in their names but must manage that property for the benefit of the trust’s beneficiaries. It’s important to remember that the key to a trust is the fiduciary relationship between trustees and beneficiaries – a special relationship of trust and confidence. The law requires that the Considering whether trust property must be kept separate from the trustees’ own property. If trust assets are treated as personal assets, a trust should not have been set up in the first place.
Trusts And Rental Properties
As an owner of a property portfolio, large or small, considering whether to transfer a rental property into a trust or purchase a new property using a trust depends on your ultimate end goals and whether it is an asset or part of an asset base you intend to keep and wish to protect.
If a rental property is making a loss, a trust may not be the best choice from a tax perspective. The reason for this is that trusts cannot pass losses on to individuals for tax purposes (although rental losses can be offset against other trust income, such as interest or dividends). Any losses incurred are carried forward and offset against future trust income.
'Company Versus Trust' Or 'Company And Trust'
Property portfolios can be held in your own name or via a trust or company, or a company and a trust. To understand what may be the best option for you, it is useful to look at how a trust works in comparison to a company.
A company is a separate legal entity whereby shareholders are allotted shares and are entitled to receive dividends (and surplus assets when the company is wound up). One of the benefits of a company structure is that the shareholders are not liable for the company’s obligations, although this does rest with the directors, who may also be shareholders.
Should you wish to transfer ownership of the investment to a family trust as part of your personal asset protection plan, if the investment is owned by a company, this transfer can be easily achieved by transferring ownership of the shares to the trust.
Is a trust needed if you have a company? This depends on what you are trying to achieve with your asset protection plan. Trusts are an excellent way of helping you protect your personal assets (like your family home and investments). If your rental property investment is one that you wish to protect, the shareholding or some of the shares can be transferred to a trust.
When you are planning to make a living by buying properties and on-selling them, trusts are sometimes used to ensure that the trading or development activity does not taint the way other personal or investment assets are taxed. These are generally referred to as trading trusts, and professional advice is recommended before considering this option.
When Not To Trust
It is generally not practicable to set up a trust where there is a house only. The fees and trust restrictions are likely to be prohibitive. However, there is no one-size-fits-all rule. Sometimes you might want to isolate a particular house in a trust and pay the associated costs and fees to separate it in this way. For example, the bach or crib might have sentimental value for the wider family, which means you want to ring-fence it.
It is generally accepted that you wouldn’t use a trust to try to get a residential care subsidy. A relationship property agreement might be a better way to agree on the ownership and division of assets on separation, if that is your concern.
Impending Trust Changes
If you do own a trust or are planning to start one in the future, it’s really important that you know about upcoming changes to trust law in New Zealand. The Trusts Bill is currently making its way through Parliament and will soon become law as the Trusts Act. It will be the biggest overhaul to New Zealand trust law in more than 60 years.
The Act will clarify and modernise existing trust law and will apply to existing trusts as well as new ones. There will, however, be a transitional period for existing trusts to adapt to certain parts of the new legislation.
The Act will clarify the duties of trustees and will require much greater transparency around trust activity. Trustees will have more responsibilities and face greater accountability due to an increase in compliance requirements.
Under the changes, beneficiaries will need to be told about the trust and be provided details about the trustees. They must also be advised of their right to request information, such as the trust deed, its assets and liabilities and any trust activity.
Compliance duties will increase the time and cost of administering some trusts, meaning that some may no longer be cost-effective. Greater transparency will also put things in the open that some current settlors or those contemplating setting up a trust might prefer to keep private.
• If you’re a trust settlor or trustee, we recommend you start thinking about whether:
• You’re willing and able to undertake the increased obligations
• You’re comfortable with the increased information provided to beneficiaries
• The reasons for setting up the trust are still relevant
• The trust will offer the same protection.
• Settlors and trustees need to make sure they are aware of the coming changes and start planning for them now.
If you have a trust or have decided to set up a trust for your properties, make sure you consider the following:
Get a regular warrant of fitness: With existing trusts, it is absolutely critical that you seek a regular warrant of fitness. We recommend that all trustees take legal advice and have their trusts reviewed regularly and as soon as possible to ensure that they can and will comply with the new legislation.
Don’t set and forget: Don’t approach the set-up of a trust with a “set and forget” mentality. The reality is that a trust costs money to run effectively. And chances are, if you’re not reviewing it regularly, it’s unlikely to fulfil the purpose for which it was first established.
Put your trust in professional hands: When it comes to trusts, there is plenty of advice available. Many lawyers and accountants consider themselves trust experts – but make sure you choose your trust adviser carefully and check their credentials before you get started.
Consult your local Public Trust office or other trust specialist for advice. Public Trust offers a specialist trust review service, and as New Zealand’s most experienced trustee organisation, is responsible for managing thousands of family trusts each year.
This article provides general information only and is not intended to replace specific advice from a trust expert. It is important that you obtain appropriate legal, accounting and estate planning advice for your circumstances before making any decisions on a trust.