Protection Given By A Family Trust

Protection Given by a Family Trust

For most families, the objective in establishing a family trust is to safeguard your family’s assets against business and other risks. The sections below briefly describe some of the most commonly used protections offered by family trusts. It’s important to keep in mind that assets are only protected if they have been completely given away to a trust. If you have retained some assets, or the trust still owes you money, then this will be vulnerable to a variety of claims.

Business owners

Without a family trust, business owners run a considerable risk that their family assets could be vulnerable. A range of situations could bring this about, including:

  • Creditors, if there is a business failure
  • Compliance issues, resulting in action taken against you or your business under, say, occupational health and safety laws, and/or
  • Action taken against directors or senior management of a company.

Trusts are not only for employers. Looking to the future, if you establish your own business or are in a senior position in business, you should also consider some method of protecting your assets as this type of business activity may expose you to legal claims.

Trading and development trusts

Conducting business in New Zealand is carried out on a personal basis as a sole trader, or through a joint venture, partnership, company or trust. When a trust is used as a vehicle to run a business it’s commonly called a ‘trading trust’ or a ‘development trust’.

Trading in land and property development

Special rules apply if your business involves trading in land or developing real estate. These activities need to be separated from your other business and personal assets to avoid association for tax purposes.

There are specific tax rules covering land sales and associated persons. If you are a property dealer or developer, anyone you are associated with can also be taxed as a property dealer or developer. This can happen unwittingly. The result can be that a profit may become taxable when the property is sold. If you can avoid being treated as associated, any profit can be a tax-free capital gain. The structures that need to be put in place in these circumstances are complex; we would expect both your lawyer and your accountant to be involved in advising about this.

Relationship property claims

Trusts are often used to help avoid claims by a former spouse or partner; for example a claim against your son or daughter’s inheritance. When a couple separates – whether they were married or in a civil union, de facto or same sex – the basic rule is that they share equally in all ‘relationship property’. These are the assets they have built up together during their relationship. There are some exceptions, such as inherited property, and the court has some overriding discretion. In reality, however, it’s easy for an inheritance to become relationship property if, for example, you use inherited money to pay off your joint mortgage.

One solution is to ensure that any inheritance is kept in a trust separate from relationship property. Putting your children’s inheritance in a trust will help avoid claims from a rogue son-in-law or daughter-in-law.

Before you enter a de facto relationship, marriage or civil union, if you have significant assets you should carefully consider how best to protect your personal assets in case you later separate or one of you dies.

The equal sharing rule does not apply to short duration relationships (usually less than three years). However, transferring your assets to a trust just before the three year period ends is not likely to be effective. Relationship property law has claw-back rules which apply if you have given away assets with the intention of defeating a future claim.

If you are going into a second or subsequent relationship, civil union or marriage, and you have children from an existing or from previous partnerships, it’s even more important to ensure that your assets are preserved in order to make the division of property fair and just, and to ensure your children’s interests are preserved.

Children with special needs

A trust can help to ensure your assets are safeguarded for a child with special needs such as a disability. This protection might be given through the family trust, or by setting up a separate trust for the individual child. However, you need to be aware that trust assets can be treated by the authorities as financial resources that should be used first before asking for government help, such as a benefit. The trustees can exercise their discretion to make available to the beneficiaries any income and/or capital to help meet their legitimate cash requirements. The trust could also make loans for capital needs such as housing, or even buy a home for occupation by a beneficiary.

Similar protection can be arranged when you have doubts about the ability of a child or other family member to manage their financial affairs.

You may feel the need to protect your children or other family members from their own folly or lifestyle. It can be left up to the trustees to give these children control of some or all the assets held in trust at a future date and, in the meantime, provide for their reasonable needs.

Education trusts

Sometimes parents or grandparents want to establish a separate trust or trusts to help fund education costs for their children or grandchildren. Often these trusts specify levels of education to be funded, such as high school costs, boarding fees and/or tertiary level expenses.

Claims against estates

Establishing a trust will help protect your estate against family protection and testamentary promise claims.

Family protection

If your Will doesn’t provide adequately for your spouse or partner, children, grandchildren or other close family members you may have been significantly financially supporting, claims may be made against your estate after your death, under the Family Protection Act 1955.

The claimant/s must show that you had a moral obligation to provide for them and that your Will did not provide for their adequate maintenance and support. If provision is made under your trust for those for whom you have a moral obligation to provide, claims can usually be avoided. However, your children in particular have a right to be acknowledged as members of the family.

Testamentary promises

A testamentary promise claim can be made against an estate if the deceased promised to reward someone by his or her Will in return for work or services. These claims are made under the Law Reform (Testamentary Promises) Act 1949. To support a claim there must have been something done for you by the claimant, such as looking after you without being paid (for example, housekeepers or companions). While evidence is needed to prove the claim, often the promise will be implied in the circumstances. Assets held in a trust at your death are not part of your estate and cannot be claimed under the testamentary promises legislation.

Minimising tax liability

Establishing a trust principally to avoid paying tax is not likely to be effective. If there is a tax saving by establishing a trust, it must be seen as an incidental benefit, not the sole or dominant purpose of the trust.

Tax savings can be made if the trustees have flexibility to decide which beneficiaries should receive income each year. Trusts are taxed at the maximum individual rate (currently 33%) but income distributed to beneficiaries is taxed at their own personal rate. Using a trust for tax efficiency requires careful advice. A decision as to how much income is to be allocated to a beneficiary must be made within 12 months of the balance date for the trust.

The 2011 Supreme Court decision, Penny & Hooper v Inland Revenue, emphasises that an artificial arrangement intended mainly to avoid tax can be ignored by the Inland Revenue (IRD) for income tax purposes even if the trust itself is perfectly valid.

Penny & Hooper v Inland Revenue2 Two surgeons (Messrs Penny and Hooper) each put their business into a company. Each company was owned by a family trust. In each case the company paid the surgeon a salary far lower than what he was previously earning. Most of their earnings were channelled through their trust. Because this reduced the amount of tax in each case, the IRD invoked the anti-avoidance rule in the Income Tax Act 2007.

The Supreme Court agreed with the IRD; the trust and company arrangement was legally valid but the surgeons must pay income tax on what they actually earned, not just the notional salary. The surgeons also had to pay $25,000 towards the IRD’s legal costs.

A trust or a company?

Other structures such as Look Through Companies (LTCs – previously called Loss Attributing Qualifying Companies), partnerships, and Portfolio Investment Entities (PIEs) may offer tax advantages for individual investors. It’s important to remember, however, that these structures do not offer the asset protection available through a trust.

State assistance and benefits

Strict rules apply if you want to apply for a government benefit or assistance such as legal aid, student loans, the unemployment benefit, etc. These rules have been in place for a long time. Assets transferred to a trust can be treated as resources that you should use first before asking for government help. Even if you have transferred assets to a trust of which you are not a beneficiary, you may still be denied assistance from the state.

The same is true also of using a trust in order to qualify for a rest home subsidy. In that situation, there are strict limits on how much you may put into a trust each year.

Capital gains or succession tax

New Zealand does not currently have any capital gains tax or any inheritance or estate tax. Gift duty (a tax on gifts of large amounts) was abolished in 2011. This means property of substantial value can now be given to a trust immediately. In recent years, some political parties have indicated they would like New Zealand to adopt a capital gains tax similar to the Australian model. Having family wealth in a trust could help defer such a tax for a generation or more.

Maximum duration of trusts

By law, most trusts cannot last forever. To avoid the uncertainty of the old legal rules, most family trusts now adopt a fixed period of 80 years. Under current law, this is the maximum number of years allowed for trusts other than purely charitable trusts. The New Zealand Law Commission is considering reform of the law but this could take some years before it takes effect.

If your assets are owned by a trust they may be preserved for the next generation. It must be remembered, however, that most trusts will mature after 80 years and the process must then be started again. Many families may not be taking this trust life cycle into account.


There is currently no requirement for public registration or disclosure for private trusts. A trust’s annual accounts and activities are not available to anyone else except the settlor, trustees and the beneficiaries.

The trust deed can also restrict the type of information beneficiaries can access. This is limited by recent court decisions which set the minimum information a trustee must provide beneficiaries who request it. Beneficiaries are usually entitled to see deeds, accounts and the record of decisions of the trustees, but are not entitled to know the reasoning of the trustees when exercising their discretion.

Charitable purposes

Charitable trusts and foundations must be registered in order to obtain their taxexempt status. Trust information is publicly available on the Charities Register, unless you ask for confidentiality.

Your family trust could include named charities or charitable purposes generally as potential beneficiaries. If charitable purposes or named charities are included the trustees can make charitable payments without the need to register as a charity.

Since 2008 trustees have been entitled to a tax rebate up to 100% of trust income distributed for charitable purposes.

Dealing with changes in the law

There is always the possibility of changes to trust law, or associated laws affecting trusts, which may remove some of the benefits attached to a trust or frustrate some of the original objectives of the trust.

No one knows what future law changes there might be or when they might occur. However, it is comforting to know that the fundamental structure of a trust has stood the test of time over hundreds of years.

If there are changes to the law, modern trust deeds usually provide the trustees with a power to vary some of the terms of the trust, which may ensure the provisions of the deed can be adjusted to comply with law changes. It’s important that your trust deed includes wide powers to resettle and to vary the trust.



For more information please contact Tina McLennan