A trust structure can be employed in a business or for trading purposes. A trust involves the trustee (usually either an individual or corporate entity) holding certain assets in his, her or its own name but for the benefit of a group of persons and/or entities (e.g. referred to as "beneficiaries"). The trustee is required to use any property belonging to the trust for the good or benefit of the beneficiaries, and not for his, her or its own purposes. Trusts are often created because of the flexibility they allow in tax planning, tax minimization and asset protection. They are also a popular form of business structure because they allow a flexible means of distributing income and assets and because they can provide certain income tax savings by distributing income among tax advantaged beneficiaries.
A trust itself does not pay income tax on profits, provided that the profits of the trust have been fully distributed to the beneficiaries in the relevant financial year. Trusts are relatively simple to form. However, the law of trusts is quite complex and a lack of appreciation of the law or an inadequately drafted trust deed can give rise to problems. Accordingly, anyone contemplating the use of a trust as a business structure should seek legal advice.
The two main types of trusts are:
- unit trusts; and
- discretionary trusts (family trusts).
In a typical unit trust, beneficiaries own units in the trust, and the trustee must distribute the income to the beneficiaries/unitholders in accordance with their respective unit holding or class of unit holding in the trust. Accordingly, a unitholder in a unit trust, like a shareholder in a company, has a specific entitlement to a share of the income or property of the trust in accordance with his or her unit holding in the trust. Different classes of units may have the same or different rights and entitlements (e.g. as to share of income or capital, voting rights and preferential rights to interest or income) between them.
On the other hand, in a discretionary trust, the trustee typically has the discretion to decide which beneficiaries will receive distributions of both income and capital, and what amount(s) (if any) they will receive between them.
The discretion as to distribution of income and capital should be exercised afresh each financial year. This is an important advantage in tax planning. Subject to the Corporations Act 2001 (Cth), limited liability may be achieved with discretionary trusts by the use of a corporate trustee. Discretionary trusts are a common choice for family-run businesses.