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Trusts as Vehicles for Wealth Management
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By: Charlene Sell
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Trusts can be a useful mechanism to manage and distribute wealth. They can be used in this way both during your lifetime and after you have died.
Whatever structure you use to manage your wealth it is important your family are included in discussions about wealth management. This will help prevent any misunderstandings and ensure your family buy-in to plans for how wealth will be used in the future.
Advantages of a Trust
Trusts can be a good vehicle for aggregating and managing family wealth because they provide a significant degree of flexibility. A well drawn trust deed will allow your trustees to deal with trust assets in flexible ways and take into account changes in beneficiaries' personal circumstances or changes to legal or tax requirements.
There are also other advantages to holding assets in a trust, including:
Protection of assets from claims: Assets held in a trust protects them from claims against you, your family and the estates of those people. Claims may come from:
third party creditors;
your or your children's spouses or de facto partners under the Property (Relationships) Act 1976;
the Crown if you or your family have committed an offence;
your family or other people claiming against your estate under the Family Proceedings Act 1980 or Law Reform (Testamentary Promises) Act 1949.
Protection of assets from spendthrift beneficiaries: Trusts can be useful to protect your assets from children if you are concerned they may not have the necessary skills to use those assets responsibly. Instead, your trustees can, during your lifetime and after you have died, make distributions to your children to meet their needs as they arise while still protecting the trust assets.
Tax: Distributions from a trust to a beneficiary are taxed at the beneficiary's income tax rate. This may advantage beneficiaries who are on a lower income tax rate. Trusts may also protect assets if new taxes, such as death duty or inheritance tax, are introduced in the future.
Disadvantages of a Trust
While there are many advantages in using a trust structure to manage family wealth there are some disadvantages that need to be considered before establishing and transferring assets to a trust:
Loss of ownership: You will no longer own the assets when these are transferred to the trust; these will be owned by the trustees. Therefore, you need to consider not only your own needs, but also the needs of the other beneficiaries before making decisions about trust assets.
Confidentiality: Trustees are required to provide information about trust assets to beneficiaries. This means that some information you could previously have kept private may need to be disclosed.
Cost: There are costs involved in establishing and maintaining a trust, including legal fees and increased accounting fees if your accountant needs to prepare financial accounts for the trust.
Increased administration: There is more work involved in administering a trust, including holding regular trustee meetings, recording trustee decisions in formal resolutions and ensuring legal and tax obligations are met.
Complexity: There is increased complexity around a trust structure. Trustees need to comply with the trust deed and trust laws before making decisions.
Features of a "good trust"
It is critical to get the terms of the trust deed right. This document says who is entitled to participate in the trust and what the rules are. There can be real problems if the wrong people are allowed to participate or if the rules are not adequate. Unfortunately this is a fairly common problem in New Zealand. Some of the key issues to consider when establishing a trust include:
Selection of trustees.
You should include at least one independent trustee who is not a beneficiary of the trust, such as a lawyer or accountant. This helps to minimise the risk of a finding that the trust is a sham because you will no longer have sole control over the trust assets. A corporate trustee can also be a good option when using a trust for succession planning where a lot of wealth or a substantial business is involved. You can have various family members on the board of that trust company who can make decisions together on how the trust should be administered. The corporate trustee will be the legal owner of the trust assets so any changes to the composition of the board will not affect ownership of those assets.
Power to hire and fire trustees.
Ideally this power should be held by an independent person. This also helps to minimise the risk that a trust may be considered some kind of sham or something similar. That person can remove trustees who are unable to act, should not continue to act for some other reason, or who are in deadlock.
Narrow class of beneficiaries with a power to add.
It is best to have a narrow class of beneficiaries because this makes the trust easier to administer and reduces the number of possible claims. For example, if your child and their spouse separate and your child's spouse is a beneficiary of the trust, that person may have a claim against the trust. If you have a narrow class of beneficiaries but hold the power to add beneficiaries in the future, you can include more beneficiaries as circumstances change.
It is possible that the interests of final beneficiaries could trigger relationship property type claims because final beneficiaries are entitled to the trust assets when the trust is wound up. Therefore, you should consider choosing your grandchildren or great grandchildren as final beneficiaries rather than your own children.
You should ensure private assets are kept in a separate trust to business assets. If these assets are mixed up in the same trust, the private assets could become subject to liabilities arising from business activities.
Long trust period.
Usually the trust lasts for 80 years, but you should include a power to wind up the trust early.
Wide powers to transfer or apply assets.
The trust deed should include wide powers to transfer or apply trust assets in various ways so that the best method can be adopted, taking into account the relevant circumstances at the time.
Wide powers of variation.
This will allow the terms of the trust deed to be altered when circumstances change.
The Law Commission has released an issues paper outlining proposals to update trust law and it is expected that a final report will be issued later this year setting out recommendations for reform.
One of the proposed changes which may make trusts more attractive is the proposal to extend the duration of trusts to a maximum of 150 years.
Some of the other key proposals in the issues paper include:
Spelling out trustee duties more clearly.
Restricting the extent to which trustees can exclude or limit their liability for breach of trust.
Requiring corporate trustees to clearly describe their status in communications and contracts i.e. "X Limited acting as trustee for Y trust".
Imposing liability on directors of corporate trustees for trust liabilities in certain circumstances.
Expanding the District Court's jurisdiction in relation to trust matters and also allowing the Family Court to make orders and give directions where this is necessary to give effect to determinations or other proceedings before the Family Court.
It is important that trusts are regularly reviewed to ensure they are administered effectively and with the interests of beneficiaries in mind. Regular reviews also help to minimise the risk that a trust could be considered a sham.
If you are thinking about establishing a trust or your existing trust structure has not been reviewed for some time, we recommend you discuss this with an experienced trust lawyer.
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