It is well understood by savvy property investors that holding investment properties in a trust can offer the benefits of asset protection, estate planning and tax efficiency. The next question is whether these benefits extend to the family home. In other words, is it worth holding your family home in a trust?
What is a trust?
First, what is a trust? A trust is not a ‘legal entity’ (such as a company) rather it is a legal relationship that exists between at least two parties, the Trustee, and a Beneficiary. Simply put, the Trustee, who has legal ownership of the trust assets promises to hold those assets for the benefit of the Beneficiary. The terms of the promise are captured in the Trust Deed, with any deficiencies in the deed met by legislation and case law. The Trust Deed instructs the Trustee how to deal with the property which is the subject of the promise (the capital) and any income resulting from that property (the income). Different instructions in trust deeds create the various types of trusts that we are familiar with, including discretionary trusts (sometimes known as family trusts), unit trusts and fixed trusts.1
Sidebar: You must ensure your trust deed is up to date and ‘fit for purpose’. For example, in recent years there have been changes to the tax treatment of trusts that own land and/or have foreign beneficiaries in both New South Wales and Victoria and trusts that own land in South Australia. We are very good at preparing and updating trust deeds so that they are useful and appropriate for your purposes. An ‘off the shelf’ product costs less initially but, in our experience, often costs more in the long run. Most importantly, if you do not discuss your objectives with a lawyer, you will not receive the advice you need to ensure that a trust is the right strategy for you. Call us on 1300 654 590 or email us if you (or your accountant) are introducing trusts into your asset holding structure.
Tax benefits (or lack thereof)
Many investors hold their investment properties in trusts because of the tax benefits that are associated with trusts. These include:
- The ability to stream income received, and any losses sustained, from rental properties to beneficiaries in a superior tax position;
- Discounted land tax rates for certain ‘fixed’ trusts; and
- The avoidance of stamp duty on changes of beneficial ownership of the property (depending on the state).
However, many of these perceived tax benefits are not applicable to property that is your main residence. Your main residence does not generate any income which may be streamed to different beneficiaries and land tax is not payable on your main residence. Further, (and perhaps most importantly) trusts do not qualify for the CGT main residence exemption.
Section 118-110(1)(a) of the Income Tax Assessment Act 1997, the section of the Tax Act that deals with CGT and the main residence exemption, requires that the taxpayer claiming the exemption is an individual. Section 995-1(1) of that Act defines an individual to mean a natural person. Accordingly, only natural people can access the exemption and any properties held by trusts will not meet the requirements in section 118-110(1)(a).
This means when a trust sells your family home, CGT will be payable on the difference between the cost base (what you paid to acquire the property and certain costs of ownership) and what you sell it for. Conversely, if the same property had been owned by an individual, then no CGT would have been payable.
So, is that a definite no to the family home and trusts?
In typical lawyer fashion, our answer is, it depends… For some people, the benefits of owing their family home in a trust are not solely tax efficiencies.
For business owners and people in professions who may be personally vulnerable to third party claims (such as doctors, lawyers, architects etc) owing the main residence in a family trust is often done for asset protection reasons. For example, should a creditor make a claim against you personally, the fact that the property is not held in your name may prevent your home being seized to cover any personal debts.
However, if you want both asset protection and a primary residence CGT exemption, another option is for your spouse to own the property. This means the house does not form part of your personal assets, but still allows for the property to be held by an individual who, if the property is sold, may access the CGT main residence exemption. Depending on the state, a full stamp duty exemption may be available for this transfer.
Succession planning is another reason people may decide to hold their primary residence in a trust. If you wish your primary residence to go to a specific beneficiary on your death and your Will is potentially vulnerable to a challenge, holding the property in a trust, control of which can be transferred outside of your Will, protects the primary residence from ending up with the wrong person.2
Further, if most of your wealth is tied up in your family home and you only have a small amount of cash in your personal estate, the costs of dealing with your deceased estate may be reduced by owning property in a trust.
Probate is the legal process of validating a will and distributing a deceased person’s assets. Probate may be an expensive and time-consuming process that must be undertaken by your executors if your estate comprises real property and/or your estate is valuable. If you do not own real property in your own name and you reduce the value of your estate by owning assets outside your personal name, your executors may not have to seek probate on your estate, leaving more cash to be distributed to your beneficiaries.
How we can help
If you need guidance on whether holding the family home in a trust is right for your circumstances, or you are considering introducing a trust into your business or personal structure, we can help. Call us on 1300 654 590 or email us.