“Put not your trust in money, but put your money in trust.”
Oliver Wendell Holmes
“Put not your trust in money, but put your money in trust.”
Oliver Wendell Holmes
A trust is where one person ("trustee") holds and owns property for the benefit of another person or persons ("beneficiary" or “beneficiaries”). A family trust is a trust set up to benefit members of your family. Mostly, trusts are set up to protect assets by transferring those assets from individuals to the trust.
The trust deed is the legal document that states the settlor’s wishes and sets up the trust. It appoints the trustees and states their powers, discretions and duties, defines the beneficiaries, and includes various rules for the administration and management of the trust.
The settlor is the person who sets up the trust, and is usually but not always the person who currently holds the assets that will be transferred to the trust. There may be more than one settlor: in the case of a family trust, it is usual for a couple both to be settlors. The trustees are the people who are responsible for administering the trust. They must make sure that the wishes of the settlors (as set out in the trust deed) are carried out. This is an important role. I usually recommend that family trustees have an independent trustee (preferably a professional person). This also helps in convincing eg the IRD that the trust is not a “sham”, because someone else who is not a beneficiary is involved in the decision making of the trust.
The beneficiaries are the people who may benefit under the trust. With a family trust, the beneficiaries will normally include every member of your family (including possible future family members such as future children and grandchildren). In most family trusts, the beneficiaries are “discretionary beneficiaries”, meaning that the Trustees have the discretion to decide who among the classes of beneficiaries receive income or capital payments from the trust.
Why form a trust?
The reason for setting up a family trust is to transfer your significant assets from personal ownership to ownership by the trust ie, to achieve own no significant assets while becoming a beneficiary of the trust yourself. A trust can protect your from claims by creditors, ex-spouses or partners and the government, if in later years a rest home subsidy is required. Nowadays, because of the fact that unmarried people can claim against a former’s partner’s assets in certain situations, many people use them to protect their children’s inheritances.
Transferring assets to a trust:
Any assets may be transferred, but generally it is limited to “big ticket” items, such as the family home, bach, investments etc, which you hope or expect will rise in value. Assets such as cars and other consumable items normally depreciate in value, so there is limited value in having them in a trust.Assets must be transferred at their current market value at the time of transfer. If an asset is transferred for less than current value, the IRD is likely on any investigation to deem the undervalued portion a gift and charge duty. The value of assets is easily determined if they are transferred at time of purchase – it is the purchase value – but otherwise a valuation will be required to establish the value. It is important to understand that once an asset has been transferred, any increase in its value goes to the trust, because it is the owner of that asset.
The transfer process is as follows:
(a) Determine which assets are to be transferred to the trusts and establish their value;
(b) The transferors (normally the Settlors) and the trustees enter into a sale and purchase agreement for each asset;
(c) Because the trust is not going to actually pay money for the asset, the trustees enter into an acknowledgement of debt by which they agree that they owe the transferors the value of the asset. This is called a debt back to the transferors. Because it is also an asset, it must be gifted to, essentially, make sure the Settlors do not retain any value in it;
(d) At the same time as the acknowledgement of debt is signed, the Settlors can agree to forgive all or part of the debt to the trust (it used to be up to $27,000 each, so a total of $54,000 for a couple, to avoid gift duty, but it is now possible to gift all debt outstanding from the trust at once. It is recommended that specific advice is sought about this before proceeding);
(e) Whatever gifting you choose to do, it is no longer necessary to file returns at IRD, as was previously required.
When should trusts be formed?
It is best to form trusts and begin the gifting process at an time when you can be sure you will be able to complete the gifting programme at a relatively young age. Also, it is generally prudent to transfer an asset “now” rather than later, because by then its value (hopefully) will have increased. If it is in the trust, the trust gets the value. If it is not in the trust, the gifting programme will be extended by the time it takes to gift off the increased value of the asset.
One of the main reasons people form family trusts is to be able to obtain a subsidy for rest home care, if needed, without putting the trust asset at risk. People going into long-term rest home care can apply for the Government to pay for their care by way of a Residential Care Subsidy.
The most important requirements for qualifying for this subsidy are that
* you have no home (unless your spouse or partner dependent child is still living in your home), and
* your cash savings are less than the set limit.
The asset threshold is $190,000, increasing by a further $10,000 on 1 July each year. However, by 2010, for example, the asset limit will still be only $200,000 (for a single person), and any assets over that amount will go towards rest-home fees. Note that when a subsidy is applied for, you must sign a declaration that answers the question, "Have you made any gifts within the previous five years?" The debt owed by the trust must have been completely forgiven more than five years before you apply for the Residential Care Subsidy in order for you to be able to answer "no" to this question.
If you have made any gifts within the previous five years that total more than $5,000 per year, the excess over $5,000 a year is treated as part of your assets when you apply for the Residential Care Subsidy, even though you no longer in fact have that asset.
You get the benefit of the $5,000 a year deduction for each year since you made the gift. So if you gifted $30,000 four years ago, you get the benefit of a $20,000 deduction (four times $5,000), so that only $10,000 of the gift is assessed as part of your current personal assets.
Work and Income have powers to investigate gifts made earlier than the previous five years, going as far back in time as they like. If they decide a gift made at any time was made so that you would qualify for a benefit or subsidy, they can assess it as still being part of your personal assets and refuse you the benefit or subsidy on the basis that your personal assets are more than the allowable maximum.
The costs of maintaining a trust:
There are likely to be overheads in maintaining a trust. If the trust holds income-earning assets, the trustees must maintain annual accounts and annual tax returns and comply with any other requirements imposed by the Inland Revenue Department. It is therefore important to establish, before you set up a trust, that the benefits of the trust will outweigh the costs.
Can a transfer of assets to a trust be set aside?
Certain statutes provide for transfers of assets or gifts to be set-aside in certain circumstances:
* Property Law Act 1952 - A transfer of property may be set aside if the intention in transferring it was to defraud creditors.
* Insolvency Act 1967 - A payment of money can be taken back if you are adjudged bankrupt within two years of that gift being made, or within five years if it can be shown that at the time you made the gift you were unable to pay your debts.
* Property (Relationships) Act 1976 - Under this Act transfers of assets can be set aside if the effect of that transfer is to defeat the rights of spouses or de facto partners to share in the couple’s relationship property.
* Social Security Act 1964 - This is the Act that is relevant to rest home subsidies (Residential Care Subsidy). Unlike the other Acts listed above, its effect is not to overturn the gift but rather to provide for the government to refuse to grant a benefit in some cases where a gift has been made. This is explained in more detail below.
It is essential that the trust is properly administered, that records are kept and that the trust assets are dealt with according to the terms of the trust. Otherwise, the trust could be held to be invalid through investigations by the Inland Revenue Department or some other creditor (including Government departments). This requires trust meetings to be held at annual gifting time or when an asset is purchased or sold, and comprehensive minutes to be kept.
This memorandum does not purport to be extensive or thorough. Rather, it is an introduction only to a complicated subject. Before proceeding to set up a family trust, you are strongly recommended to take professional advice in order to be able to properly evaluate the pros and cons of proceeding. Cockcroft Law Ltd accepts no liability to any person who acts on this memorandum without seeking proper professional advice.