What Happens To My Family Trust In A Divorce?
Written by: Krystine Canny-Smith l Accounting Team
Many people use a family trust for their business or investments, however, often don’t really understand what they are or how they work. They may be confused with companies or partnerships but are very different, with tax advantages and different legal consequences.
The Basics Of A Family Trust
Family Trusts are discretionary trusts that are set up to hold assets or run businesses. They are distinct from companies in that they are not a separate legal entity, the legal entity is the Trustee. Trusts can be established for many reasons, including:
- Holding assets for the benefit of the family group;
- Assist in protecting family assets from debts or bankruptcy of any one member of the group;
- Allow for tax benefits by distributing profits to members of the group who would otherwise have no or very little taxable income; and
- Allow for the passing of assets from one generation to the next without incurring stamp duties or other costs of transfer.
Family Trusts are distinct from companies in that they are not a separate legal entity, the legal entity is the Trustee. The choice of who can appoint or change the Trustee (the “Appointor”) and who the Trustee is are very important for that reason.
The Trustee of the Trust has powers to operate the Trust, including operating the business (if it has one) and selling or purchasing assets. Generally, the parents or grandparents will be Trustees for a Family Trust, with the children and grandchildren listed as beneficiaries.
The Appointor of the Trust is the person who has the power to appoint and change the Trustee and is generally nominated in the Trust Deed.
Lifespan Of A Family Trust
Trusts have a maximum lifespan of 80 years and must be wound-up (“vested”) after that date. They can be set up for shorter periods, however, must not exceed 80 years. Commonly trusts are vested before they reach 80 years.
As an example, they may be set up to run a business, which can be sold or closed when the business owner retires or wishes to exit the business. If a Trust owns a property or other assets, often the assets will be sold or distributed to the beneficiaries on the death of the Trustee.
Another reason a Trust can be vested early is in the case of divorce or family breakup.
Divorce
In the case of a divorce, the Court looks through the Family Trust structure and will decide whether to include the assets of the Trust as assets of the divorcing couple. A lot of people mistakenly believe that holding assets or running a business in a Trust will mean those assets aren’t part of the property pool. That’s not correct, however, simply receiving distributions from a Trust, does not mean that the Trust is part of the property pool as well.
The Court will consider who has control over the Trust when deciding whether it forms part of the property pool. This means will look at:
- Who is the Appointer and the Trustee;
- What are the terms of the Trust Deed;
- What is the history of distributions from the Trust; and
- The contributions made by each of the couple to the Trust.
If the assets were put into the Trust while the couple were in a relationship, then they would generally be part of the property pool.
What To Consider When Divorcing If You Have A Family Trust?
There are many things to consider when divorcing if you have a Family Trust, and each case is unique, so here are some things to consider that may relate to you:
- Get professional advice – every situation is unique!
- Your Family Trust may form part of the property pool in the case of a divorce. If so, you need to consider the continuity of the Trust. Will it be able to buy out the other partner if they wish to vest the trust? Can the business continue to run without the partner? If it is a valuable business or holds valuable assets, how will the partner continue the business and buy out the other partner? Where one half of the divorcing couple buys the other out, there is the option to continue the trust, perhaps with an update to the Trust Deed to remove the existing partner.
- Is vesting up the Trust the best option? If the assets of the Trust are valuable and do form part of the property pool, vesting the Trust may be inevitable. In this case, the assets will be sold or distributed from the Trust as per the Trust Deed.
- Capital Gains Tax is often a forgotten element in a divorce. If there are valuable assets of the Trust, in particular where the value of the asset has increased over the ownership period, there will be a taxable gain in the Trust where the asset is sold. Some things to consider are:
- If you sell the asset, the gain should be calculated, and the tax liability considered in the property pool settlement.
- If the property is kept and transferred to one party, the potential capital gain should be calculated and included in the settlement.
Here is a worked example:
Mr A and Mrs B divorce. They own two properties. Property 1 is the principal place of residence when they were married and is valued at $1M. Property 2 is a rental property they purchased for $500,000 six years ago, that is now worth $1M. Neither property has any borrowings. As part of the property settlement, Mr A agrees to take ownership of property 1, and Mrs B takes ownership of property 2. On the face of it, it appears that they have received equal distributions, however, property 2 has capital gains tax liability on sale for the $500,000 gain that occurred over the six years of ownership. The tax payable will depend on Mrs B’s circumstances, but it is evident she has received significantly less in the settlement than Mr A by agreeing to take this property.
As mentioned above, every situation is unique, so this is general in nature and designed to give you something to consider as you navigate your divorce. We recommend you start your journey by considering the tax and legal consequences of your Family Trust and get specialist advice.
Canny Accounting + Your Family Trust
Depending on where you are in your family trust journey, it is important to ensure that you have a plan in place if something were to happen to you, including a marriage breakdown. There are many factors that can be pre-planned and pre-considered when starting a family trust.
We have a team of experts in accounting to ensure that your hard-earned assets as in the safest of hands. Get in touch with our team if you are in the process of a divorce, or considering a divorce if you have a family trust so we can help to ensure that your business and your assets are safe.
