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Tax benefits of distributing trust profits to a company?

Discussion in 'Accounting, Tax & Legal' started by naz, 17th Oct, 2007.

  1. naz

    naz Member

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    Let's say I am planning to set up a discretionary trust set up with a corporate trustee. I am planning on being the director of the corporate trustee and having the trust as the sole shareholder of the trustee. The beneficiaries will be as normal (including me and the corporate trustee). I don't think there are any problems with that so far but correct me if I am wrong.

    Now assuming I am currently earning enough to put me on a tax bracket of 30% and that the trust is making a profit of say $10,000 per year. I currently don't have anyone on a lower tax bracket to distribute the profits to, so the choices are to distribute to me or the corporate trustee. Assuming that neither me nor the corporate trustee want the physical money at the moment, and hence the money will kept in the trust, is there any good reason to distribute the profits to me rather than to the corporate trustee (please read the rest of this before answering that question)?

    I believe it would be better to distribute the profits to the corporate trustee for tax benefits, as I think that sometime down the track there will be a beneficiary (hopefully me) who will be in a tax bracket below 30% who will want more physical money per year than can be provided by the profits from the trust. For example, let's say in 5 years time the trust still has an approximate annual profit of $10,000 but I have stopped working (my sole income is from the trust) and I need $30,000 a year to live on. If the trust has distributed the profits for the past 5 years to the corporate trustee, who has then loaned them back to the trust, the corporate trustee can now get back some of the capital from the trust, make a fully franked dividend back to the trust, and then trust can then distribute that extra profit to me (fully franked so I can claim imputation credits from the tax office). Essentially although tax is being paid on the profits of the trust now, I will eventually be able to get (some of) that profit tax free.

    Alternatively if I had have distributed the profits to me in the first 5 years, I would have paid tax on them at the time. In the sixth year, I could get the $10,000 from the trusts profits (which would be taxable), and $20,000 as capital from the trust (which would be tax free), however I would not be able to claim imputation credits on the tax I have already paid, and hence be worse off.

    I haven't heard of people doing this (paying to a company rather than an individual when both are on 30%). In fact I’ve heard of the opposite. Is that because
    a) I haven't heard from enough people
    b) most people by the time they aren't working they don't need more money in one year than what the trust is distributing anyway so it doesn't really help them
    c) it's a bad idea. If so please enlighten me as to why this is.

    Many thanks for your time and thoughts
     
  2. Rob G.

    Rob G. Well-Known Member

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    Just dashing out ...

    So just a couple of points:

    1. Don't make the Trustee a primary beneficiary if possible. (merging interests ?).

    2. Make sure all present entitlements to any company beneficiary are PAID by the Trustee and loaned back to avoid any Div 7A issues (no unpaid present entitlements).

    3. Companies cannot utilise the CGT discount concession on trust distributions.

    4. Loans are assets of the company and so available to its creditors - so preferably use an independent inactive corporate beneficiary.

    5. Non-commercial loans to the trust will not be deductible if borrowing costs are incurred by the corporate beneficiary.

    6. Consider if a Family Trust Election and Interposed Entity election for franking credits ?

    7. If franking credits exceed tax liability, a company cannot get a tax refund. It must carry forward a 'synthetic loss'.

    8. Distributing capital to a corporate beneficiary may change its character to 'profits' for distribution to shareholders - most payments to shareholders are deemed to be dividends. Even exempt income and gifts may end up as unfranked dividends eventually !

    9. Shares in the corporate beneficiary are assets available to shareholder's creditors.

    i.e. There is heaps of housekeeping with bucket companies, so when individual beneficiaries are on the corporate rate it is often safer and much easier to distribute to the latter.

    Unless there is a more compelling reason than just tax to consider.

    Must fly ...

    Rob
     
  3. handyandy

    handyandy Well-Known Member

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    We do distribute income to a company that in turn is wholly owned by another trust.

    We easily exceed the 30% tax bracket for all the benificiaries of our discretionary trusts if we were to distribute all the income. So to control our personal income we set up another company which is wholly owned by another of our trust and then any excess income can be distributed to this company leaving the imputation credits intact.

    This company then acts as a treasury and provides loans to our various entities, as required, thus making use of the retained earnings.

    What this means is that based on the current tax breaks we can distribute about $90k per person and get taxed a flat 30% per person. Most of this tax is already credited through the use of imputation credits.

    Cheers
     
  4. reidy75

    reidy75 Member

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    Sure about this one? An unpaid present entitlement isn't generally treated as a loan, so no Div 7A issue.

    Whereas treated as a loan, definitely at risk of Div 7A.
     
  5. Rob G.

    Rob G. Well-Known Member

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    In the context of that message:

    sec. 109XA(2) makes any unpaid present entitlement a deemed dividend if the Trustee makes any non-commercial advancement to a beneficiary who is also a shareholder or associate of a shareholder of your bucket company.

    Via sec. 109XB of course.

    Cheers,

    Rob
     
  6. Rob G.

    Rob G. Well-Known Member

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    Actually, the other way round:

    Deems a loan to a beneficiary to be a dividend if they are a shareholder or associate of a shareholder in a company that has an unpaid present entitlement.

    Must read what I type before hitting the post button !!

    Anyhow - a lot of deeming going on.

    Cheers,

    Rob
     
  7. reidy75

    reidy75 Member

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    But if the money is retained in the trust, you don't have that issue, which was the original proposal.

    If that's the case, you still have a potential issue just by making a loan from the company to the trust?
     
  8. Rob G.

    Rob G. Well-Known Member

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    How do you mean "if money is retained in the trust" ?

    Do you mean that there are no debit balance beneficiary loan accounts ? This would avoid Div. 7A, but you could also put the loans on commercial terms.

    Cheers,

    Rob