1. Introduction
Discretionary trusts are well known for their tax advantages and also, to a lesser extent, asset protection and estate planning benefits. However, the traditional set up for a discretionary trust by an accountant or even a legal firm does not provide:
a) Protection for the trust if the trustee is attacked
b) A succession plan for three generations deep
c) The limitation of beneficiaries to bloodline only
d) Capacity to deal with deaths or divorce of beneficiaries, simply and easily.
As we will show, the Leading Member Trust and its similar namesake, the Family Protection Trust, deliver on each above. It is an infinitely superior trust to your standard discretionary trust, which is an excellent tax vehicle – maybe????
2. What is a Discretionary Trust?
A discretionary trust enables the Trustee of the Trust to:
a) Distribute capital to a range of beneficiaries (a person receiving a capital payment or asset of the trust);
b) Distribute income to beneficiaries, including streaming specific types of income such as dividends, capital gains, interest and foreign income; and
c) Conduct business and other operations, including investment for the benefit of the beneficiaries of the Trust.
In short, the Trustee generally has a wide range of income and capital distribution discretions which it exercises each year, no later than 30 June, so that the Trustee is not taxed on the trust’s income at 45%. In addition, streaming income and specific types of income enable the Trustee to spread the income around, ensuring that the tax liability is spread across the family, thereby lowering overall family average tax rates. Plus, having assets in a Trust potentially protects them from beneficiary and trustee creditors.
Warning: At Abbott & Mourly Lawyers, we see so many pre-2012 discretionary trust deeds that do not allow for income streaming and limit any distribution to net income, which locks up accounting income into the trust until termination. We can upgrade these deeds with a specific process to ensure that there is no resettlement. Contact us at Abbott & Mourly if you need help.
3. If the Trustee is so Powerful, who controls the Trustee?
In a normal, off the shelf trust deed, a person or company named the Appointor has the power to appoint and remove the Trustee. This may include themselves. In essence, they control the Trust from behind the veil of the Trustee.
However, there are limitations in this structure:
a) What happens if the appointor dies or loses mental capacity? In this instance, the power shifts to the Trustee, which may not be desired for family or financial reasons.
b) What happens if the Appointor goes bankrupt? This may limit their capacity to act financially and also potentially put the Discretionary Trust under attack.
Succession is the weakest link of many current discretionary and family trusts in Australia.
A recent case landed on our desk at Abbott & Mourly. It was of a person who had established a discretionary trust through a legal firm appointing themselves as appointor and trustee for the benefit of their spouse and children. They went overseas and unfortunately passed away. The matter came to our offices as the accountant looking after the trust did not know what to do. We reviewed the deed, and only the appointor could appoint another appointor and the trustee. With the death of the appointor, the matter had to go to the Supreme Court to put the spouse beneficiary in as Appointor – at the cost of $40,000 in legal fees.
4. A Leading Member Family Trust – the Better Way
A Leading Member Family Trust focuses on the critical role of Appointors. Think, if you will, of the British Monarchy. If something happens to the Queen, the next in line for the Crown is currently Prince Charles, then Prince William.
Diagram One: The British Crown – Line of Succession
With a Leading Member Discretionary Trust, the head of the Trust is the Leading Member Appointor. It is not the Trustee nor principal beneficiary. The Leading Member Appointor:
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Controls who can be the Trustee, including the appointment and removal of the Trustee;
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Can veto many of the decisions of the Trustee, much the same as the Queen has the power to veto decisions of the English Parliament;
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Can determine when the Trust is to be wound up and through their veto power, which beneficiaries are to benefit from the Trust and in what case;
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Importantly limit the beneficiaries to bloodline lineage of the Leading Member or those persons or entities at the discretion of the Leading Member;
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Trusts primary beneficiary so that in the event of death, they control and main beneficiary switches automatically to the next Leading Member.
5. Leading Member Succession – the Royal Key
As we have seen, the succession for the British Crown is well settled, and the majority of Australia knows the lineage. Likewise, the Leading Member Discretionary Trust provides for a predetermined succession plan going down one, two or more generations. We have had some clients on varying an existing discretionary trust build six levels of succession. It is a crucial decision to be made upfront as a family’s wealth and control are in the hands of the Leading Member.
In planning for a Leading Member Discretionary Trust, as a protection for all the family’s wealth in the Trust, the only question that needs to be asked is: Who is the next Leading Member? Who then? Who then? Who then?
6. The Family Protection Trust
The Family Protection Trust, again an Abbott & Mourly specialist trust deed, is the same as the Leading Member discretionary trust; however, there is a change in terminology with the Leading Member Appointor now known as the Family Protection Appointor.
7. Must have – Leading Member corporate trustee
Asset protection in a discretionary trust is weak if the shareholder of essentially a corporate trustee is in the firing line litigation wise or their shares pass to their estate and are subject to a family provisions claim. As Leading Member corporate trustee, our role solves this issue with the Leading Member Appointor being the only shareholder. In death, dementia, divorce or litigation, their position as Leading Member Appointor is transferred, their shares cancelled, and new shares issued to the next Leading Member Appointor. Safety – security and certainty are paramount as one weak chink can lead to a disaster.
8. What can I charge?
The Leading Member discretionary trust or the Family Protection Trust protects a family’s wealth for generations. In addition, only bloodline family members can be provided for through income and capital plus any entities or trusts that they control. This premium product stands on its royal throne, and the fees usually charged by our LightYear Docs advisers is $3,500, including the Leading Member corporate trustee.
9. The “How To”?
If you already have a Discretionary Trust, it will need to be carefully upgraded to ensure that the benefits of Leading Membership are embedded into the Trust and that a new Trust is not created. This would result in a closure of the old Trust and potential capital gains tax and stamp duty issues with the transfer of existing assets of the Trust shifted to the new Trust. We can undertake this process for your Trust through Abbott & Mourly lawyers – a specialist Leading Member legal firm.
If it is a new Leading Member Trust, then there are a number of essential tasks to be completed by us:
a) Determine the Leading Member and successive Leading Member;
b) Determine who the Trustee is – this is the Leading Members decision and generally is a company;
c) Determine who is the settlor of the Trust – the Settlor contributes $10 to set up the Trust at law but has no further active control and is prevented from being a Trustee, Leading Member or beneficiary;
d) Compile the Leading Member Trust Deed on LightYear Docs, and if you would like Abbott & Mourly review, you can pass that onto us for the cost of $395;
e) Execute the Leading Member Trust Deed;
f) Apply for an Australian Business Number and Tax File Number;
g) Set up a bank account for the Trust
h) Get into the business of being a Trustee and investing the monies of the Trust or running a business.
10. Links with a Leading Member SMSF
A Leading Member self-managed superannuation fund is a superannuation fund similar to the Leading Member Family Trust. We can help you transition from an SMSF to a Leading Member SMSF. Here is a tip, the same Leading Member for the Family Trust could be the Leading Member of the SMSF.