Family Trusts

What Is a Family Trust?

A family trust is typically established as a discretionary trust. This means a trustee (either an individual or a corporate trustee) holds assets on behalf of a group of beneficiaries, usually family members.

Unlike fixed structures, discretionary trusts allow the trustee to decide how income and capital are distributed each year. That flexibility is precisely why trusts are popular, but it’s also where complexity and risk can creep in if the rules aren’t followed carefully.

Income Distribution and Tax Planning

One of the key advantages of a family trust is the ability to distribute income in a tax-effective way.

Each financial year, the trustee can allocate income between beneficiaries based on their individual tax positions. For example, distributing income to a beneficiary on a lower marginal tax rate may reduce the overall tax paid by the family group.

However, this flexibility comes with strict rules:

• Distributions must be resolved by 30 June each year.
  If a valid resolution isn’t made on time, the trust’s income may be taxed to the trustee at the top marginal rate (currently 47%).
• Distributions to minors are heavily penalised.
  Income distributed to beneficiaries under 18 is generally taxed at penalty rates (up to 66% on amounts above $416), limiting the effectiveness of income splitting with children.
• Income streaming must be done correctly.
  Trusts can stream specific types of income, such as capital gains or franked dividends, to particular beneficiaries, but only if the trust deed allows it and the resolutions are properly prepared.
• Anti-avoidance provisions (Section 100A)
  Section 100A is an anti-avoidance provision in Australian tax law designed to prevent tax benefits from arrangements where a distribution is made to one beneficiary (often with a low tax rate), but the economic benefit is effectively transferred to another beneficiary. It applies particularly in the context of trust entitlements arising from reimbursement agreements.

This is where many trusts unintentionally fall short: the intent is there, but the execution isn’t compliant.

Capital Gains Tax (CGT) Considerations

Family trusts can be particularly effective when managing investments and capital gains.

If a trust sells an asset held for more than 12 months, it may access the 50% CGT discount, provided the gain is distributed to an individual beneficiary. This can significantly reduce tax payable.

Trusts also allow flexibility in who receives capital gains, for example, directing gains to a beneficiary with carried-forward capital losses.

That said, losses within a trust are quarantined. Capital losses can’t be passed to beneficiaries and must remain in the trust until future gains arise.

Using a Corporate Beneficiary (Bucket Company)

Many family trusts distribute income to a related private company (often referred to as a “bucket company”). This can cap tax at the corporate rate (currently 25% for base rate entities), rather than personal marginal rates.

While this can be effective, it’s not a set-and-forget strategy:

• Funds retained in the company aren’t personally accessible without further tax implications.
• Division 7A rules can apply if distributions aren’t physically paid, potentially resulting in deemed dividends and additional tax.
• Long-term planning is essential to avoid simply deferring tax problems rather than solving them.

Trust Losses: More Restrictions Than Many Expect

Unlike companies or individuals, trusts cannot distribute losses.

• Revenue losses must stay in the trust and can only offset future trust income.
• The ATO applies strict trust loss rules, testing continuity of control and ownership.
• If these tests aren’t met, losses may be denied altogether.

This often comes as a surprise to business owners who expected losses to flow through to family members.

Compliance Is Not Optional

Running a family trust brings ongoing compliance obligations that must be taken seriously:

• The trust deed must be followed exactly.
• Annual distribution resolutions must be prepared and documented by 30 June.
• A trust tax return must be lodged every year.
• Beneficiaries must correctly declare their trust income in their own returns.

Failure in any of these areas can result in punitive tax outcomes, even where there was no intent to do the wrong thing.

Other Tax Considerations

Depending on the trust’s activities, additional obligations may arise:

• Franking credits need to be allocated carefully to ensure they’re not wasted.
• GST registration may be required if turnover thresholds are met.
• Land tax and payroll tax obligations vary by state and can differ significantly for trusts.

These factors should always be considered before assets or businesses are transferred into a trust.

The Upside — and the Risk

Advantages of family trusts:

• Flexible income distribution.
• Asset protection benefits.
• Access to CGT concessions.
• Strategic use of franking credits.

Common pitfalls:

• Higher setup and ongoing compliance costs.
• Inability to distribute losses.
• Harsh tax on minors.
• Increased ATO scrutiny where arrangements appear artificial.

Our View at Luma Advisors

Family trusts remain a powerful tool, but they’re not a universal solution.

The biggest risk we see isn’t that trusts don’t work; it’s that they’re implemented without a clear strategy or maintained without proper advice as circumstances change.

Before setting up a family trust — or before relying on one for “tax savings”, it’s critical to understand not just the benefits, but the responsibilities that come with it.

At Luma Advisors, we help clients determine whether a trust structure genuinely supports their goals, and if it does, ensure it’s implemented and managed correctly from day one.