Income From Your Trust: The Rules + Benefits
Written by: Corey Haynes l Accounting Team
At Canny Group, trust is one of the most vital values – the trust between our leaders and team members, and the trust our clients place in us.
But “trust” isn’t just a value – it’s also a specific entity structure that enables our clients to distribute income and assets in a strategic and tax-effective way. Despite being a commonly used entity structure in Australia, many clients are often confused about how trusts work, how income is determined and distributed and if a trust is a high-risk entity from an Australian Tax Office (ATO) and tax perspective.
So, place your trust in us as we delve into what a trust is, who can be beneficiaries, how trust income is distributed, the nuances of trust income streaming, and the rules around Section 100A anti-avoidance.
What Are Trusts + Beneficiaries?
According to the Australian Taxation Office (ATO):
“A trust is an obligation imposed on a person or other entity to hold property for the benefit of beneficiaries. While in legal terms a trust is a relationship not a legal entity, trusts are treated as taxpayer entities for the purpose of administration.”
In simple terms, a trust is a relationship between one entity (the trustee) who agrees to manage and control assets on behalf of others (the beneficiaries). Trust structures include:
- Discretionary trusts;
- Unit trusts;
- Self-Managed Superannuation Funds (SMSFs);
- Deceased Estates;
- Testamentary Trusts;
- Special Disability Trusts, and more.
Most trusts come into existence through a trust deed.
The trust deed sets out the rules of the trust (such as whether the trust can be wound up or “vested”) and nominates the trustees, beneficiaries and appointers. Although trust law is governed by State legislation, the trust deed remains the primary source of trust for a trust – making it essential to ensure the deed remains the primary source of trust for a trust – making it essential to ensure the deed is drafted correctly.
For example:
John Doe established a trust called “Trust A” to operate his business (the trust property). John, through the trust deed, nominates himself as the sole and individual trustee and names himself and his wife, Jane Doe, as the primary beneficiaries. During the year, the business earns a profit. John, as trustee, ensures the profits of the business are distributed between the beneficiaries as according to the trust deed, and he does so before the end of the financial year. In this situation, he distributes the profit 50/50 between himself and his wife.
Trusts can be set up for a variety of different reasons – from managing business operations to investing funds or even safeguarding assets for a disabled individual. And the beneficiaries don’t always have to be individuals, like in the above example – they can also be companies or other trusts. This flexibility means income can be distributed strategically to minimise tax and protect assets within a family group.
Income Distribution Within A Trust
Now that you have a better understanding of what a trust is and who can be a beneficiary, let’s talk about how income is distributed.
Under Division 6 of the Income Tax Assessment Act 1936, a beneficiary is taxed on their share of the trust’s net taxable income based on their entitlement to the trust’s distributable income (as outlined by the trust deed), but how does a beneficiary know what is his or her share of income is? This depends on the type of trust and the decision-making of the trustee.
Some trusts are discretionary trusts, which means that income must be determined and distributed out to the beneficiary at the direction of the trust deed. Sometimes, the trustee has full discretion, and this means the trustee can determine how much money to distribute to all available beneficiaries.
Other trusts are considered “fixed” trusts, which means the beneficiaries and their share of the income is fixed and pre-determined. In other trusts, like a special disability trust, there is no income of the trust, and the trust exists primarily for the purpose of managing a disabled individual’s assets and expenses.
Regardless of the type of trust, it is important that the trustee understand what type of trust the trust is and what the trust deed says – if in the situation that a beneficiary is not presently entitled to the income, this can mean that the income is accumulated in the trust and the trust pays tax on the income at the highest marginal tax rate – a situation a lot of us want to avoid!
Trust Income Streaming Rules
In addition to income in general, a trust might receive specific types of income, like capital gains and franked distributions that include franking credits. Where permitted by the trust deed, the trustee may stream these specific types of income to beneficiaries.
Streaming certain types of income to beneficiaries allows for more strategic tax and income planning opportunities.
For example:
Streaming a capital gain to a particular beneficiary that has carried forward capital losses may save tax for a family group because capital gains received by that beneficiary can be offset against that beneficiary’s capital losses.
Section 100A + Reimbursement Agreements
At the beginning of this article, we highlighted that one of Canny Group’s key values is trust, and part of earning that trust is helping our clients stay compliant with complex tax laws, like Section 100A of the Income Tax Assessment Act 1936.
Section 100A is an anti-avoidance provision that allows the ATO to essentially step in when trust income is distributed to someone on paper, but the real benefit goes to someone else, and this is often done to reduce taxes. This arrangement is referred to as a reimbursement agreement.
For example:
Let’s say a trust has distributable income of $100,000, and that income is distributed to Ben Smith, who is a university student with no income, so his tax rate is very low.
However, Ben doesn’t receive the $100,000, and instead it is used by his parents to help them pay down their mortgage. In this situation, Ben never really benefited from the money. Section 100A may apply in this situation, and, in an audit, the ATO will amend the tax returns distributing this income to the parents.
There are exceptions to the above. Section 100A may not apply if:
- The beneficiary uses or is benefited from the distribution themselves;
- The arrangement arose from ordinary family or commercial dealings, like parents assisting with school education for an adult child or assisting with the purchase of a property; and
- The beneficiary is under a legal disability.
The ATO approached Section 100A with a risk assessment framework, which is contained within Practical Compliance Guideline PCG 2022/2.
These guidelines categorise reimbursement arrangements into three risk zones:
- White Zone: low risk, compliant arrangements with no problematic features;
- Green Zone: generally low risk, relating to ordinary family or commercial dealings, though they may attract some ATO scrutiny; and
- Red Zone: high-risk arrangements that involve complex structuring primarily aimed at reducing tax – these arrangements are likely to attract significant ATO attention.
To reduce the risk of falling into the Red Zone, it’s important to maintain thorough records including keeping the original trust deed and any amendments, trustees resolution and meeting minutes, loan agreements and transaction records, communication with beneficiaries regarding their entitlements, and having discussions with your tax agent regarding trust distributions and structuring.
Good record-keeping is your best defence when trying to demonstrate that trust distributions were made for the genuine enjoyment and use of each beneficiary.
Canny Accounting + Assisting You With Your Trust
As we approach the end of the 2025 financial year, it is more important than ever to ensure that your trust distributions are in place and documented and that all the beneficiaries are properly recorded, so that this financial year’s income, if any, can be distributed accurately and in compliance with the ATO.
If you need help setting up a trust, reviewing your current trust arrangements or managing your trust’s distributions, Canny Accounting is here to help. We can guide you through every step, ensuring you stay compliant no matter where you are in your journey.
Get in touch with our team today to find out how we can best support you!
