Day 18 – Business Structures (Trusts)

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Hi Victoria here from HBA Encompass, The Bookkeeperr Hub, and author of Zest for Success.  Yesterday we were talking about business entity structures and we’re gonna continue with that today.  Today we’re gonna talk about trusts and companies.

Now when I’m talking about trusts, I’m not talking about the ones you see in movies where there’s the rich Americans who’ve been left a trust fund.  What I’m talking about is an Australian entity that is used to create wealth and to hold assets.  Now, I’m not gonna get into the nitty gritty about the actual creation of a trust but it is a legal document that needs to be written up by a solicitor just to keep in mind with that.  So when we talk about trusts, there are three common trusts in Australia.  The first one is a family trust.  The second one is a discretionary trust.  And the third on is a fixed or unit trust.  So family trusts and discretionary trusts operate the same way.  And that is that at the end of the year there is a bucket of money which is the profit that’s there and it needs to be distributed to someone at the end of the year.  So by law, the trustees are meant to have a meeting prior to the 30th of June and determine where that profit goes.  If it’s a family trust, it needs to go to the family members or companies or other trusts that family members have an interest in.  If it’s a discretionary trust, it’s in the discretion of the trustee.  So what that means when we’re talking about entity structure is an amazing opportunity for tax planning.  Now if you do have a trust, you do need to do annual financial statements so it does cost a little bit more from the accounting point of view but it gives you enormous flexibility.  So let’s look at the benefits.  The first one is asset protection.  Any assets that are held in the trust be out of business or any loans that are held in a trust unless there’s a trustee or director’s guarantee, then those assets remain in the trust.  Should something happen when someone wants to sue the business then they can only sue the assets of the trust.  So that means that any other assets that you’ve got outside the trust such as your family home are protected which means that they can’t be used or sold to pay debts of the business.  That’s really an important thing.  From an income tax perspective, trusts profits need to be distributed to someone or a company otherwise it’s taxed at forty-eight and a half cents in a dollar which is the top marginal tax rate and we definitely don’t want that one.

As I said, we have that meeting prior to the end of the year and we can distribute to different family members or different entities.  Now kids, when I say kids I mean under age 18, can only get four hundred sixteen dollars from a trust otherwise it’s taxed at sixty-six cents in a dollar which is truly evil.  Where however adults if goes to individuals, the normal marginal tax rates apply or you can park it in a company which is generally taxed at thirty cents in the dollar on trust distribution income.  So you can minimize the tax that is payable by using a trust.  And down the track, if you are to sell your business then any capital gains exemptions that apply to individuals apply through trusts if those profits are allocated to individuals.  So, awesome tax planning opportunities.  Awesome asset protection opportunities.  The downside is there is a set-up fee and there are ongoing fees for the accounting for the trust.  But when I look at it and I look at for most people, a trust is that the best investment vehicle going forward.  If you’re in Queensland and you operate a building business, where you need to be registered with the QBCC, operating through a trust gives you all kinds of headaches and is not the preferred method.  So just keep that one up your sleeve.  They are fixed and discretionary trusts.  Unit trusts are very similar but what it means is that any profits that are there are automatically allocated in the percentage of the unit holdings.  If we have 50/50 split between mom and dad, mom has to have fifty percent of the profits.  Dad has to have fifty percent of the profits.  So a lot less flexibility than a discretionary trust but what it means is that if you have perhaps two different families where you want to invest in something.  And you want it to be similar to a partnership but not have the downside of the equal and several liability or the asset protection issues, you can use a unit trust to operate that business.  It still has the same capital gains tax exemptions that they flow through to the end user or whoever is the beneficiary of the trust but it doesn’t have the flexibility of a family or discretionary trusts.  So there the common types of trusts that are in Australia and tomorrow we’ll have a chat about companies.  I’ll see you then.

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Day 17 – Business Structures: Sole Trader and Partnerships
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Day 19 – Business Structures (Companies)

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