Do you still need your family trust?

This is a question I am increasingly being asked these days, mainly because the new Trusts Act 2019 comes into effect from 30 January 2021.

There is no record of the number of trusts in New Zealand although it is estimated that there are around 450,000; that’s nearly one for every 10 New Zealanders. There is still no register although all trusts will now have to have an IRD number.

Some of the main requirements coming from the Act are:

• Increased financial reporting (that is annual financial statements or accounts for every trust even though the trust might just own the family home).

• The need to advise beneficiaries that they are beneficiaries of the trust (this shouldn’t be a surprise for most beneficiaries but might be a good time to tidy up the list of beneficiaries. For example, your daughter’s ex- partner may be listed (even if not by name) and this may no longer be appropriate. This tidy up of beneficiaries will require a variation to the trust deed.

• The need to provide beneficiaries with financial information if requested. This is a potential minefield but one that has been anticipated by the law makers who have allowed that trustees can resolve not to provide the information if they believe that it is not in the best interest of the beneficiary(ies), it is commercially sensitive information or other relevant reason. They will need to be able to justify their decision on reasonableness grounds.

• Trustees cannot profit from being a trustee. This means they can’t receive any personal benefit from the trust (such as living in the family home) so technically trustees can’t also be beneficiaries. To get around this you will need to vary the trust deed to allow the trustees to live in a trust asset – the family home.

• Some disputes between trustees and beneficiaries can now be resolved by mediation or arbitration. This will save significant cost and time as not all disputes will have to go to court now.

• There is now greater ability to delegate trustee powers for example for investment decisions.

Most solicitors I’ve spoken to are recommending that a professional trustee (such as a lawyer, accountant or trustee firm) be appointed as co-trustee to ensure that the new legal requirements are being met. This will be a big change for many mum and dad trustees who have had a family trust for a number of years but may not have been having annual meetings and preparing accounts.

There will inevitably be increased compliance costs with the new legislation.

So, should you keep your trust going or is this a good time to consider winding it up?

In making this decision you will need to consider the reason or reasons that you set it up in the first place. Generally there are four main reasons that trusts are set up:

1. Creditor protection

This is relevant if you own your own business or there is any chance you might be sued as a director of a company. If this is a possibility then owning your major assets such as your family home and an investment portfolio in a trust keeps those assets separate for your family. By divesting or selling your assets to a trust, you are giving away ownership of the assets to the trustees. You can’t legally continue to treat the assets as your own.

However, recent case law shows that judges can be reluctant to accept that assets are completely separate to the owner if the assets were clearly only put in trust to avoid paying creditors or if the judge feels that you have enough control over the trust assets to use them to pay creditors. To reduce this likelihood, appoint an independent or professional trustee, clearly document major decisions and operate the trust as if you are truly holding the assets in trust for the beneficiaries.

If you are no longer in business then the creditor protection provided by a trust may no longer be relevant for you.

2. Relationship property issues

Trusts are frequently used to keep property as separate relationship property. This means that as long as the property is kept separate and not intermingled with joint property then it can remain as separate relationship property. Trusts are often used for this purpose when couples separate. Putting the assets distributed on their split into a separate trust for each partner means they can be kept separate as long as the assets aren’t mixed with a new partner’s property. This works really well for an investment portfolio or a rental property as long as joint funds are not used for example to pay off the rental property mortgage.

Parents also often set up separate trusts for their children (often referred to as inheritance trusts) to leave any inheritance or their own trust distributions to ensure the funds are kept intact for their child and then grandchildren.

If this is the only reason you are keeping a trust then you may prefer to just use a “pre-nup” or contracting out agreement if or when you start a relationship with a new person. Remember though that many people find this conversation difficult and a trust means they can avoid the conversation. This is especially important when one partner has substantially more assets than the other.

If you want to leave assets to your children or their trusts, you can also easily do this through your will.

3. Rest home subsidies

For many years some people used trusts to squirrel away their assets to reduce their liability to pay for rest home care. At the moment, the amount of assets an individual can hold and still be eligible for rest home care subsidies is $236,336.

In the past individuals would religiously “gift” $27,000 a year of their assets to their trust to avoid paying gift duty to Inland Revenue. Gift duty was collected by Inland Revenue on gifts of more than $27,000 per person. However the rate of gift duty was reduced to 0% in 2011 although the rate could be raised quickly at any time.

Work and Income uses different criteria and has the ability to disallow any gifts of more than $6,500 per couple for each of the last five years. This means that they could refuse your application for rest home care subsidies. MSD also has the power to review a trust’s documentation to work out the true gifting position and whether the beneficiary is entitled to any distributions from the trust.

Setting up a trust now purely to reduce rest home care costs does not work – even if it may have in the past.

4. Estate and tax planning

Trusts have traditionally been used as estate planning and tax minimization vehicles.
In the days when estate duties were significant, trusts were often established to own family assets. Distributions could be made to beneficiaries to minimize any estate duty or to legitimately provide for unequal distributions for some beneficiaries such as handicapped children.

The income produced, for example, from a farm or investments, could also be distributed to trust beneficiaries on lower tax rates as long as the distributions were made to them.
Even with the reduction in estate duties to 0%, the principles remain the same and there are still opportunities to make different distributions to beneficiaries according to need or to minimise income taxes by allocating trust income to beneficiaries.

With distributions to minors under 16 years of age being taxed at the same rate as trusts (33%) there may now be limited cost effective opportunities to use trusts to minimize taxes. However there may still be opportunities to allocate income and assets according to need.

Some trustees may now be concerned that they may find it difficult to provide financial information as it may demotivate beneficiaries from finding work and encourage them to demand an income from the trust. Or trustees may find it difficult to justify unequal distributions to beneficiaries for fear of their decision being challenged in the courts. In these cases winding up the trust and holding the assets in your own name means that you will have no accountability to any beneficiaries any more and can keep your financial information quite private from children and other potential beneficiaries.

If you decide that the original reasons for retaining your trust are no longer relevant then you may decide to wind up your trust before the new trust law comes into effect in January. There will be some cost particularly in conveyancing if there is a physical or real property involved so you may want to get this process under way by talking to your solicitor as soon as possible.