Want to listen to the full episode and all our other episodes?
Hearsay allows you to fulfill your legal CPD requirements every year.
Our yearly subscription is only $299/year.
With a yearly subscription, you can access all of our episodes AND every episode we release over the next year.
Episode 112
Buy Episode
Substantive Law
To Trust or Not to Trust? The Power of Appointors in Family Trusts
Law as stated: 25 January 2024
What is this?
This episode was published and is accurate as at this date.
Western Australia's own John Wojtowicz touches down o'er East, joining David in the Curiosity Recording Room to dissect the powers and responsibilities of appointors in family trusts. Touching on trust basics, the oversight role of an appointor, and the Owies decision time bomb.
Substantive Law
| What area(s) of law does this episode consider? | Appointors in family trusts. |
| Why is this topic relevant? | Family trusts are a popular vehicle for wealth, asset, and tax management. Understanding how they work, and the players within them, is a key skill for Australian lawyers. So we’re going to explore the intricacies governing appointors in family trusts. Including their role in the trust, their responsibilities to beneficiaries, and the potential liabilities of the role – as well as how their decision making impacts other trust players like the beneficiaries and trustees. |
| What legislation is considered in this episode? | Income Tax Assessment Act 1936 (Cth) |
| What cases are considered in this episode? | Skeats v Evans [1889] 42 Ch D 522
Brady Street Developments Pty Ltd v M E Asset Investments Pty Ltd [2013] NSWSC 1755
Re Owies Family Trust [2020] VSC 716
Jenkins v Ellett [2007] QSC 154
Mercanti v Mercanti [2016] WASCA 206
Kearns v Hill (1990) 21 NSWLR 107
Crichton v Crichton [1930] HCA 14
|
| What are the main points? |
|
| What are the practical takeaways? |
|
| 0:00:00 | DT | Hello and welcome to Hearsay the Legal Podcast, a CPD podcast that allows Australian lawyers to earn their CPD points on the go and at a time that suits them. I’m your host David Turner. Hearsay The Legal Podcast is proudly supported by Lext Australia. Lext’s mission is to improve user experiences in the law and legal services and Hearsay the Legal Podcast is how we’re improving the experience of CPD. Today on Hearsay we’re talking about family trusts. They’re a popular vehicle for wealth, asset, and tax management and understanding how they work and the players within them is a key skill for Australian lawyers. Today we’re going to explore the intricacies governing appointors in family trusts, what their role is in the trust, their responsibilities to beneficiaries, and the potential liabilities of an appointor, as well as how their decision making impacts other players in trusts like the trustees themselves. Our guest today, John Wojtowicz of Law Central Legal. John brings 27 years of experience as a commercial lawyer to the table on this topic. He’s worked extensively in the areas of commercial law and estate planning, two areas where we commonly see family trusts used, and he has a special interest in trusts and appointors. John’s expertise makes him the perfect guest to shed light on the complexities of today’s subject. So John, thank you so much for joining me today on Hearsay! |
| JW | Thank you, David. Thank you very much for the invitation. My background is; I started practising in 1987. Just started practising and there was a large stock market crash. But from very early on in my legal career, I had an interest in family trusts and that kept with me right up until the current day. | |
| DT | Yeah, well we said at the top of the episode it’s an important topic for commercial lawyers to know. I was thinking when we were preparing for this episode, it’s not only an important topic to know about for your clients, it’s actually an important topic to know about for yourself because it’s such a common method of holding shares in an incorporated legal practice or holding units in a trust or basically any sort of asset where you expect to earn income and a capital distribution at some future point in time. It’s a common structure. | |
| JW | Yes, in a lot of my recent talks, I’ve gone off some ATO material which said that there was 850,000 family trusts in Australia. But I’ve noticed lately, I’ve seen some commentary where the figures of 975,000 family trusts are known to be existing in the country. But they’re the ultimate vehicle to use for both asset protection and also a little bit of tax minimisation as well. | |
| DT | And a lot of our listeners will probably know that from hearing it in the past or from recommending it as the “done thing” for a client but can you tell us a little bit about why it’s such a popular structure both for asset protection and tax minimisation? | |
| JW | Well, for tax minimisation the accountants love it because any income the trust makes can be distributed to the beneficiaries. Often beneficiaries on lower tax brackets will get a lion’s share of the income or more of the income. So the tax that they pay is less compared to a beneficiary that’s on a higher tax bracket. But lawyers like myself like family trusts because the assets in the family trust are separate to the assets owned by an individual. So if an individual goes broke or bankrupt then those assets in the family trust are siloed from the trustee in bankruptcy. Often the trustee in bankruptcy is trying to seize assets in a family trust by arguing in the courts that the appointor position is property under the Bankruptcy Act but there’s numerous court cases where the court shot that down and said that the position of appointor isn’t property. | |
| DT | It’s pretty common to have a corporate trustee of a family trust as well, isn’t it? And in some circumstances it’s pretty common for that corporate entity to also be the trading entity, trading as the trustee of the trust. | |
| JW | Yeah, that’s correct, David. The reason you’d have a corporate trustee is that the trustee’s liable for the debts of the trust. So if you’ve got an individual that’s the trustee and the trust becomes insolvent then the creditors will chase the trustee personally for the money. Now the trustee’s got a right of indemnity normally under the terms of the trust deed or under various trustees acts around the country, however, the indemnity’s worthless if the trust fund doesn’t have the assets to meet the claim under the indemnity. So the way to get around this is to have a corporate trustee. So normally the corporate trustee’s an incorporated company with one or two shares paid up value. So if the trust becomes insolvent then normally what people do is just fold up the corporate trustee as part of the process and there’s no comeback on the directors. | |
| DT | Yeah, absolutely. And yes, both at equity and in statute and often under the terms of the trust deed, that corporate trustee does have a right of indemnity out of the trust assets for the trust debts that it incurs. So it’s not a case that the trust is a method of protecting the trust assets from the insolvency of the trustee but still a powerful tool for asset protection and tax minimisation as you said. And I suppose in addition to those benefits I often see trading trusts being discretionary trusts. Often there’s a corporate entity that operates as trustee of a trust and the trust is operating a trading business. It’s using the trust assets to turn revenue through operating that business. Are they a common structure for trading entities and why are they a popular structure? | |
| JW | Look, they’re popular because it gives you the ability to distribute the income from the business to whatever beneficiary you want in the trust and also should the business fail then all the damage is contained within that structure. Now, one common pitfall people do is often to people going into partnership and I’ve seen this time and time again and they use one family trust. Which is a nightmare. And you’ve got all sorts of issues with family trust elections under the tax legislation and I say to people, if they’re going to do that, you’re better for each family group to have their own family trust and then enter into a partnership with those trusts. | |
| DT | Yeah, well that sort of leans into what I was going to ask next which is, we’ve sort of talked up the family trust structure as this great sort of omniuse structure where it’s great for asset holding entities, it’s great for trading entities, it’s got all these tax benefits, it’s got all these asset protection benefits. In what circumstances would you not use a family trust? When is it better to have either the unit trust with the fixed entitlement? I suppose there’s some real estate investment situations where you might want that fixed unit trust and in what circumstances would you just not use the trust at all? | |
| JW | It’s sort of difficult to answer that question sometimes depending on what the aims of the client are but my view to asset protection is that any risky assets and that would include running a business, they should be siloed or quarantined from the other family assets like your home. Basically, every time you set up a new business venture you might want to consider opening up or setting up a new company/trust and that way that business fails and the damage is limited to that structure but each family trust should just be for one family unit and you shouldn’t have a mixture of families in there. If the business is contemplating hiving off equity to another investor or another partner then the way family trust operates is it’s not suitable for that. You’re basically then stuck with a plain vanilla company or even a unit trust. | |
| DT | Yeah, yeah. So you really want to use the corporate structure rather than the family trust structure where you’ve got multiple investors where they suppose a fixed or proportionate entitlement to the earnings or the capital income of the business and then also you might think about using a unit trust structure there, I suppose, especially if you’re looking at something like a real estate investment where the CGT consequences of earning that income through a unit trust might be more beneficial. That’s probably a conversation for another episode and a conversation for someone more versed in tax than me, that’s for sure. Let’s start with some of the basics here before we get a bit deeper because we’ve already mentioned a few of the players in a family trust and for less experienced practitioners who aren’t using these structures as often, they can be a little bit confusing. We’ve talked about trustees and beneficiaries, hopefully we’re all pretty familiar with those roles but what about the appointor? What’s the appointor’s role in a family trust? | |
| JW | Ok, look, the main players in the family trust is obviously the trustee who basically administers the trust in accordance to the terms of the trust deed. You’ve got the beneficiaries and they’re normally different classes of beneficiaries. There’d be the primary beneficiaries and the general beneficiaries and the third role, or third most important category player in the family trust would be the appointor and sometimes the appointor and guardian. Sometimes these positions, especially in England, could be referred to as the protectors but the appointor has an oversight role of being able to remove the trustee at a moment’s notice. Sometimes the appointor also has other powers. For instance, the trustee might be required to get the appointor’s consent in amending the trust deed or making certain capital income distributions under the trust. | |
| DT | Those powers, especially to replace the trustee, I’ve seen those in practise can go a little bit awry. I remember a few years ago – fortunately not for one of the parties to this particular dispute – I was acting for a financial institution that was involved as a third party but there was a family business, the marriage between the two owners broke down. The wife was the appointor under the trust deed and very quickly the trustee of the trust that was operating the business became a clean entity that she had incorporated. The family court intervened pretty quickly and required that state of affairs to be put back the way it was but it certainly shows the extent of the powers of the appointor to change the structure of the trust pretty quickly. | |
| JW | Yeah, I mean with the appointor, I often term them “the kingmaker” because in theory and in practise, the trustee controls both the investments and business of the trust as well as the distributions of both income and capital under the trust. The appointor often has the real power because they could dismiss the trustee in a moment’s notice. Most trust deeds I’ve read, and I’ve read thousands and thousands of them, allow the appointor to almost in a moment’s notice dismiss the trustee and then replace the trustee with someone of their choosing but the law’s got to a point now where there’s a lot of interesting cases coming up where the position of the appointor is being examined under the spotlight and I feel, this is my climate change warning, that the appointor in the future is going to come under a lot more court scrutiny than they have in the past. | |
| DT | That’s interesting because we are pretty familiar with the responsibilities, the obligations of a trustee – it’s a canonical example of a fiduciary. What are the responsibilities, the obligations of an appointor? Because it’s a position that comes with a lot of power. | |
| JW | That’s a good question, David. The first starting point is that the appointor’s power is defined by the deed. So the first question you got to ask yourself, is the powers created under the deed fiduciary in nature or is the power personal in nature? Now, the position in Australia differs a lot to the position in England. In England, family trusts exist but they tend to be in what I call the tax haven, or the so-called tax haven, islands in the Channel and what they do there is they set up discretionary family trusts but the appointor would be a professional, either a lawyer, accountant or a firm that specialises in being an independent appointor and in a lot of those deeds in England, what happens is that they go out of their way to specify that the appointor’s powers are personal in nature and that the appointor could do basically what they want. In Australia, of all the deeds I’ve seen, I’ve not come across one family trust deed yet and I’ve read thousands where they’ve said that the power is personal. So the question arises then is whether the power is fiduciary in nature given their powers under the deed. Now, every trust deed I’ve read allows the appointor to remove the trustee as a bare minimum and the courts have tended to indicate just simply purely on that power, it’s fiduciary but the ones that go even further which is where they basically need the appointor’s consent for amending a trust deed or approving a capital income distribution, and they would even cement that view more so. | |
| DT | Have there been cases in Australia that have concluded that an appointor’s role is a fiduciary one? | |
| JW | Oh yeah, there’s quite a number of cases. There used to be a divergence of view going back 100 years. I think there was the Skeats case and I forgot the other one, Monteveria or something where both had different views as to whether it was fiduciary or not but basically since those decisions the courts looked at this numerous times. TIP: So John just mentioned a few cases. The first was the case of Skeats, with full citation being Re Skeats Settlement, Skeats v Evans [1889] 42 Ch D 522 – so that’s 42 Chancery Division 522. In that case, a trust was established after a marriage, specifying that the trust property would be held for the benefit of the wife during her lifetime and, after her death, for the children of the marriage under certain circumstances. The trust deed allowed for the appointment of new trustees in specific circumstances. The decision held that the validity of an appointment as trustee is dependent on whether the power of appointment was fiduciary. Thus; “it would be extremely improper for a person who has a power to appoint or select new Trustees to appoint or select himself, for that principal reason.” The second decision is Montefiore v Guedalla [1903] 2 Chancery Division 723 – that’s 2 Ch 723. Now in that decision, it was expressed in relation to two or more appointors “that it has not been laid down that the Appointors are outside the class who can be appointed, although it has been said, and it is a very ‘salutary’ rule, than an appointor ought not, save in exceptional circumstances, to appoint himself.” The two cases show a slight divergence of opinion regarding whether an appointor can appoint themselves as a trustee. | |
| The court invariably always refers everyone to the trustee for the answer and they always as a general come up with the decision that the appointor’s position is fiduciary. Even there’s a recent New South Wales decision back in 2013 where the courts looked at whether the position’s fiduciary. It’s called Brady Street case and they’ve held that view as well. | ||
| DT | And in that scenario, who is the fiduciary’s principal? Is it the beneficiaries? | |
| JW | Well, under the case law the courts have taken the view that the appointor having this sort of oversight role has its obligations towards the beneficiaries in the trust as a whole. The normal duties that a fiduciary has will be imposed onto the appointor which the appointor must be mindful of when exercising any of its powers under the trust deed. | |
| DT | It sounds like the fiduciary role of the appointor is very similar or in some ways almost indistinguishable from the fiduciary duty of the trustee who has also a fiduciary duty to the same class of beneficiaries, albeit a fiduciary duty to exercise very different powers. | |
| JW | Well, I think the caselaw’s currently developing as we speak on this and I think you’re going to see a lot more interesting cases come up in the future where people will be basically suing an appointor to say that they’ve breached their duties and the court will have to determine whether their obligations are the same as that of a trustee or slightly less. And that’s a sort of minefield that I think appointors are sort of walking into. | |
| DT | You mentioned that in the UK and in, sort of, Jersey and Guernsey, the tax haven islands in the Channel, the appointor tends to be a professional who fulfills that role as their means of earning a living. Who tends to be the appointor in an Australian family trust? | |
| JW | Well, since their inception, the earliest family trust deeds I’ve seen in the country I think was sort of started in the early 1960s and they started to proliferate in the ’70s and especially the ’80s onwards. They tend to be the original promoter of the family trust. So what would happen is you’d have a husband and wife and it’d normally be the husband would be the appointor and you might have his wife as the backup appointor. That seems to be the normal situation for Australia and it’s very, very rare to see an independent appointor put into a family trust straight up, unless, you find sometimes you might have a dysfunctional family where someone’s wanting to have an independent appointor in there as a referee. | |
| DT | It sounds like the appointor is almost always a natural person, almost always an individual. | |
| JW | Yeah, 99% of the case that’s so. I have been promoting corporate appointors lately, especially for estate planning where you might find the husband would have his wife as the backup appointor, that’s a typical scenario, but say they both die in a car accident simultaneously and you’ve got five kids, which probably they might not all get on – that seems to be a common scenario nowadays. To sort of keep the peace amongst them in the estate planning side of things, it often makes sense to have a corporate appointor where each child’s a shareholder of that company and a director of that company and it allows them to have a mechanism to hold meetings and voting and also allows them to in turn pass on their share to their kids in an estate planning scenario. | |
| DT | Well, that’s interesting. It’s not the collapse of the trust. It’s not like the trust and the beneficiaries have the same identity there but you do end up with an arrangement that’s close to it in that the appointor is comprised of the beneficiaries. | |
| JW | The biggest problem with the appointor position, my experience on this is that the professionals that have set up family trusts in the past have had a scant regard for the position and it’s come back to bite the clients in the backside. Like I said earlier, a lot of these trusts were set up in the ’70s and ’80s and the original promoters or founders of these trusts, they’re all starting to die now and all of a sudden you’ve got these deeds that were prepared right back in the ’70s and ’80s and the appointor provisions are lacking insofar as succession’s concerned, they’re lacking in so far as the protocols behind meetings and if you’ve got more than one appointor, say you’ve got three of them, are the decisions by majority or the unanimous? If they’re unanimous and you don’t have a unanimous decision, does it mean that the trust falls into deadlock? So you get all these sort of practical problems arising caused by the lack of provisions in the deed. I know an example one where I came across a trust recently and the parents had died and the backup appointors were the kids and the kids were under the age of 18 so they didn’t have legal capacity to make any decisions. The trust was silent on that. So basically the appointor position, which was an important position in that trust, it was in paralysis and when, you know, you have things like that, you almost have to go down to the Supreme Court to get some directions on how the trust should be run. | |
| DT | Yeah, absolutely. Is that sort of the only way of resolving that issue where you have effectively a vacant position of appointor is to get orders? | |
| JW | Well, it really depends on the way the trust deed reads. Most trust deeds I’ve come across, you have a backup appointor and if there isn’t one available, then the deed normally allows for the personal legal representative of the last surviving appointor to be the new appointor but at the end of the day, if there’s no one around, sometimes the position just fails because there’s no one there to take it and if it causes issues of the trust functioning, then most of the, if not all the states in Australia have got powers, inherent jurisdiction to allow the court to make orders regarding the running of the trust to get around that problem. | |
| DT | Yeah, absolutely. I suppose that’s the case that if the promoter of the trust tends to be the appointor, then chances are if the appointor’s position is vacant, then the trustee, whether the trustee is a individual or a corporation, the trustee is probably in practice or in fact vacant as well because even if it’s a corporation, the controlling mind of that corporation might also be the appointor, right? | |
| JW | That’s correct. I mean, anyone who’s got a family trust, really should go and see a lawyer and map out these sort of horror scenarios or basically stress test their own structures so that if they don’t pass the stress test, the lawyer could draft the relevant documents to make sure every scenario is covered. | |
| DT | Yeah, and I suppose this is a much easier problem to solve while the appointor is still alive and you can vary the deed, right? | |
| JW | Correct. Look, I often joke with clients, some people are quite tardy if they’re estate planning affairs. Some people are superstitious. They feel that if they go and see a lawyer, then, you know, it’s sort of… | |
| DT | Inviting them. | |
| JW | Inviting them, putting the mockers on them, but I’ve always said to clients, “you tell me when you’re going to die, make an appointment for four weeks before that date and we’ll fix up your affairs,” but no one can predict their own death. You know, you could always find someone runs a red light in a car and you happen to be in that bad situation, but some of these family trusts have a significant amount of wealth in them and they really need a bit of thought put into how the transition and control of that trust occurs. | |
| DT | Let’s talk through some examples now because we’ve talked about the position of the appointor, the powers that they have and even, well, as you described it, a minefield, the kind of liabilities they could be exposing themselves to as fiduciaries. What are some of the scenarios where these issues might come up? Let’s start with the scenario in which an appointor might have to exercise their duty to replace the trustee. In what situation do you often see that happening? | |
| JW | Well, this is my climate change warning and, just like that movie An Inconvenient Truth came out 20 years ago, this is my moment now. So, if you ever replay this podcast in 20 years time you’ll go; “gee, John was right on this.” There was a decision recently called the Owies decision. It was a Supreme Court Appeal decision from Victoria. It’s basically what I call a time bomb decision. In that case, two beneficiaries brought an action against the trustee in the Supreme Court to argue that they weren’t properly considered by the trustee when the trustee made income distributions over numerous years. Now, under most trust deeds, the trustee has complete discretion as to what beneficiary gets what income or capital from the trust for each particular year and the trustee doesn’t have to furnish any reasons as to how he’s made his decision. However, the beneficiaries do have some rights insofar as accessing trust information but they also more importantly have this right to be considered by the trustee. And in the Owies case, what the court held was that the right to be considered meant that the trustee would need to make inquiries as to the beneficiary’s personal circumstances. And the evidence from that case was that the trustees hadn’t made the relevant inquiries and hadn’t given any consideration to the plaintiff beneficiaries. Now, as a result of that decision or that finding, the court basically had the trustee removed from the trust and had an independent trustee appointed and also basically made findings that the distributions for certain periods were to be held void if you pleaded it as such. Now, what that meant was if those distributions were void in certain years, that means that the default beneficiaries under the trust would then be the recipients of the income and both those beneficiaries were default beneficiaries in the trust. So what does that all mean for the appointor? Well, I could see a scenario not too far down the track where a disgruntled beneficiary, maybe in a dysfunctional family, will go to the appointor and say, “look, I haven’t been considered in any of these income distributions by the trust. The trustee’s made no inquiries as to my personal or financial circumstances. And accordingly, the trustee’s in breach of his duties.” And if you look at the Owies case, the court held that the trustee had those duties to consider the beneficiaries. So I’m putting the appointor on notice that he needs to remove the trustee because the trustee’s not basically complying with the trust deed and adhering to his obligations as trustee. | |
| DT | Wow, there’s a lot to unpack there. So, I mean, the first thing that strikes me about that, I’m blown away by the extent of the duty to consider. I mean, I knew intellectually that it was a thing, but it strikes me as, I mean, you’ve drafted and read a lot of family trust deeds, that class of beneficiaries who are theoretically entitled to duty to consider, that can be in the hundreds of people. | |
| JW | Yeah, that’s right. And that’s why I said the Owies case is a sort of significant time bomb case, as I put it. Basically, if you go back to the decision of Karger v Paul, we’re going to Victoria decision, might be 1984, and they involved a testamentary trust, but a discretionary testamentary trust. The court in that decision held that the beneficiaries have a right to be considered. And basically, everyone understood that position but no one’s actually really looked in detail what that actually meant right until the Owies case, where the plaintiff lawyers basically argue, well, how can you be considered if the trustee hasn’t made inquiries about your personal circumstances? TIP: John just mentioned Karger v Paul, a 1984 decision of the Supreme Court of Victoria. In that case, Karger, a beneficiary, contested the actions of the trustee in charge of administering an estate. The trustee, who had the authority to transfer the entire estate to a specific individual, executed the transfer without considering the plaintiff’s contingent interest, resulting in Karger being deprived of her entitlement under the will. Karger claimed that the trustees breached trust by not acting honestly, in good faith, and without fair consideration. However, the court concluded that the trustees had acted in good faith and with genuine consideration, emphasising the established principle that trustees’ discretionary actions are not subject to review unless they act in bad faith. | |
| So there’ll be a lot of people who might be trotting off to lawyers now going, “hey, I didn’t receive a distribution in the last six years. I want to start suing the trustee,” but in the Owies decision, the judgment does, not entirely convincingly, but does point out that the beneficiaries that need to be considered are the core or primary beneficiaries. And these have been what is known as takers in default. | ||
| DT | Yeah, so the named beneficiaries. | |
| JW | Correct, the named beneficiaries. | |
| DT | Yeah, that makes sense. And the other strange thing about the case to me is, okay, you’ve not discharged your duty to consider the named beneficiaries or the takers in default, trustees replaced, the replacement independent trustee can make exactly the same distribution because fundamentally, once that duty to consider has been discharged, the distribution is entirely discretionary, right? | |
| JW | Well, yes, the problem is twofold. One is, what do you do with the pass-ins – that’s distributions that have been made that the trustee hasn’t considered all the primary beneficiaries. Look, maybe that’s too late now because the distribution’s been made and the evidence is what it is but going forward, I say to my clients, look, especially in families where there’s errant kids or black sheep kids, the trustee really needs to send out letters of inquiry each year just to cover off that base. | |
| DT | And I suppose in terms of your warning for prospective or actual appointors who might be faced with the suggestion that they’ve not properly discharged their duty to replace a trustee who’s failing in their obligations, is it a good idea now to be explicit in the trustee that that power of the appointor doesn’t accompany with it any fiduciary responsibility to exercise it? | |
| JW | Well, yeah, look, I’m actually going to redraft our trustees to make appointors have personal powers, a bit like the English model. | |
| DT | Yeah, right. | |
| JW | And I suspect I’ll be the first firm in Australia doing that. The question arises, can you get your current trust deed and amend it? And that’s interesting because first of all, you can ask yourself, does the trust deed have a broad enough, wide enough variation clause to allow you to do that? Again, there’s some recent decisions, Jenkins in Queensland and Mercanti in WA, both Supreme Court decisions where the courts held that if you got a narrow variation clause, and this probably applies to about 40% of trust deeds in the country, especially the pre-2000 trust deeds, then you’re not allowed to vary the appointor provisions in a trust. If you got a wider variation clause, the clause would need to have words in it like terms and conditions and provisions, as opposed to just amending the trust and powers of the family trust, then you are allowed to vary the appointor provisions. So first of all, the first box of tick off is does the variation clause allow you to do that? And then the second question is, because you’re actually changing the nature of the position, I suppose it comes up to debate whether you’re allowed to do that because I know there’s some cases where people have tried to restrict the trustees’ duties in a family trust and I think there has been some comments in some of the English cases that you can’t contract out a core trustee duties in whatever a core trustee duty is. And maybe that principle could be extended to the appointor position as well, but I imagine we’ll find out in some future cases down the track. | |
| DT | Just before we move off that point, tell me a bit more about what a narrow or a wide variation clause would look like. | |
| JW | Look, most variation clauses, they sit at the back of the trust deed. I have seen some in the middle of the trust deed. A narrow discretionary trust deed variation clause would simply state that the trustee is allowed to vary the trust powers and the trust and they would only have some restrictions to say that, you know, you can’t basically allow any variation that allows a set law to get a benefit under the trust and another exception would be that it can’t affect an entitlement of a beneficiary that’s already been declared by the trust. A wide variation clause would have words like you can vary not just the trust and the powers of the trust, but also the terms, conditions, provisions, schedule. The word “provisions”, for instance, in that clause is. I think, New South Wales decision in Kearns v Hill where that term provision basically includes any clause in the deed. And there is some decisions where some variation clauses allow for retrospective amendments. If that’s in your trust deed, then yeah, you can even do amendments retrospectively. | |
| DT | Yeah, wow, because we often talk about variations to trust deeds for some kind of prosaic reasons often to remove an ipso facto clause. Banks will often require that to lend money to an entity that’s operated through a trust, but I imagine that tends to be possible within both the narrow and the broad conception of various… | |
| JW | Oh yeah, the banks are on the warpath at the moment. It’s quite funny actually, they’ve been lending money to a lot of trusts for the last 50 years and they were happy with the trust deed and now they’re all coming under audit. So they’re picking up typos and misspelled names and don’t have the appropriate powers clause. So yeah, all those sort of additional powers or minor changes will be caught up even under the narrow clause. | |
| DT | Do you often see issues where the banks are taking issue with the extent of or the circumstances in which the appointor can exercise their powers? Because I haven’t. | |
| JW | No, not yet. I think everyone’s behind the curve on this or behind the eight ball. The Owies decision’s caused a bit of a wrecking ball in the future. You might have these sort of crazy scenarios where people go bankrupt and the trustee in bankruptcy steps in the shoes of the bankrupt beneficiary and goes, let’s bring an Owies type case against the trustee. Let’s have a crack at the appointor. Any family scenario where you’ve got siblings that are squabbling or basically have issues with the parents, then it’s going to potentially turn into court litigation. | |
| DT | Let’s zoom out a little bit now from appointors and some of the emerging issues there to family trusts more generally and some of the recent developments. We mentioned earlier, very popular structure for tax minimisation and for a long time in the past, we should say, no longer possible now, for a long time, it was pretty common to distribute income to infant beneficiaries and indeed there was a period there where the tax-free threshold was just shy of $20,000 and it was possible to distribute income to infant beneficiaries and I imagine that was a very popular thing to do at the time. Of course, it’s no longer possible to do that. There’s quite a high marginal tax rate for distributions above $416 to infant beneficiaries, are taxed at the highest marginal rate, so that’s no longer possible. What are some of the other changes that are affecting the way people operate family trusts in practice? | |
| JW | Yeah, look, family trusts are coming under all sorts of funny issues at the moment. You know, the Owies decision’s the latest problem and that’s a significant problem. The Tax Office has always been picking away at the family trusts over the years. Reimbursement agreements, 100A, that area of the law’s come under some recent tax rulings. I won’t go into too much detail. | |
| DT | That might be something our listeners… | |
| JW | A separate podcast for that, but basically days of making distributions to beneficiaries and not paying them the money and racking up as a UPE or a loan, you need to be very careful how you operate there now unless you get caught up under that section 100A and the recent ATO rulings. Also, the ATO requires distribution minutes to be signed by the 30th of June as well. That’s been around for a while now. So, a lot more rules to follow than 10 years ago. | |
| TIP: So John just mentioned reimbursement agreement and section 100A of the Income Tax Assessment Act 1936 (Cth). Section 100A is an anti-avoidance rule targeting reimbursement agreements, where a beneficiary’s entitlement results from an agreement aiming to reduce tax and benefits someone other than the beneficiary. Generally, when a beneficiary is entitled to trust income, their share is assessed to either the beneficiary (if an Australian resident) or trustee (if foreign resident), but section 100A disregards income arising from reimbursement agreements, assessing it instead at the top marginal tax rate for the trustee. | ||
| DT | And I think that tax ruling you referred to is probably one of those material changes. It was pretty common to make, I guess what you’d call a paper or on the books distribution that didn’t necessarily translate into a paid distribution or be recorded as an Unpaid Present Entitlement or a UPE. The Tax Office has been pretty clear now that they expect to see evidence of that distribution actually being paid once it’s been declared. | |
| JW | Yeah, the problem too with a lot of these UPEs and loans that sit on the balance sheets for trusts is that another issue is that the clients tend to set and forget about them and then all of a sudden when you do your estate planning, what do you do with these things? You know, do you forgive them? And in case of a UPE, do you release them? Another common mistake people make is they look at these non-payments on the balance sheets and they don’t differentiate between what’s a loan and what’s a UPE, a UPE being an unpaid trust entitlement. And if you’ve got to basically get rid of them in your estate planning, there’s a High Court case of Crichton v Crichton and some ATO rulings as well that say that if it’s a UPE, it can’t be forgiven, they have to be released. And if it’s just a loan to the trust, it can be forgiven, but you can be very careful what wording you use in the will documents and you’ve got to basically distinguish between whether it’s a loan or a UPE that’s owed from the trust to that beneficiary. | |
| DT | And I suppose there’s a risk there where you’re forgiving or releasing one of these loans or entitlements. That’s treated as a gift of an asset, right, for tax purposes? | |
| JW | Well, if it’s done whilst not through the will, then I think you get like CGT events, I think CGT event C2, off the top of my head but if it’s done through the will, estate planning, most of the state and federal legislation allows you to do things in your will that make it transfer duty and CGT free. | |
| TIP: So John just referred to CGT, or Capital Gains Tax, and CGT event C2. A CGT event occurs when you part ways with an asset that falls under capital gains tax regulations. When you part ways with that asset, this is the moment of a capital gain or loss. Typical transactions that initiate a CGT event encompass selling an asset, engaging in trades, swaps, or exchanges of assets, and experiencing loss, destruction, or creating contractual or other rights, referred to as an involuntary disposal. Now a C2 event is when the moment of a capital gain or loss occurs due to cancellation, surrender or another similar ending. This event occurs upon entering the agreement concluding an asset or, in its absence, when the asset concludes. The capital gain from such an event is the difference between the capital proceeds from the conclusion and the asset’s cost base, whereas a capital loss is the subtraction of the capital proceeds from the asset’s reduced cost base. | ||
| DT | Well, we’re nearly out of time, but before we leave our listeners, if you had one tip for our listeners on family trusts, whether that’s establishing them or looking at working with a long-standing existing trust structure, what would be your sort of key for working with family trusts for our listeners? | |
| JW | Okay, the key takeaway, and look, most accountants and lawyers are good at this, getting them reviewed, but I would get the trust reviewed, especially when it comes to the appointor positions, because they’re instrumental in the estate planning. It’s not uncommon for clients I’ve seen to have most of their assets in a family trust and hardly anything in their personal name. So if you want to be able to pass control of that family trust to the right person, then, yeah, you’ve got to just make sure that the deed’s been properly reviewed and you’ve got the mechanisms and documents in place to allow that control to be successfully moved on. And also, I would say in families where there’s no squabbles amongst the kids, consider having a corporate appointor. That gives a huge advantage in resolving a lot of disputes post the parent’s death. | |
| DT | I suppose the commonly shared wisdom around estate planning and succession planning is after a important, meaningful event in your life, whether that’s a marriage or a divorce or a child being born or a child coming of age or a grandchild or whatever it is, a retirement, look at your estate planning documents since, they’re not fixed in time, make sure that they’re still fit for purpose and as part of that, look at your family trust and look at especially how the appointor has dealt with. | |
| JW | Yes, correct. And just one final comment from me. If you’ve got a lawyer or an accountant that’s a professional that you put in there as your appointor or backup appointor to the trust, then you might basically want to revisit that. And that scenario I gave earlier with the Owies decision, we’ll find that the professional be in an inherent position of conflict because he’ll have a duty to consider the beneficiary’s request. And then he’ll also have a duty towards his client, which is probably the trustee or the trustee’s director. So he will have a position and he will have to resign. And there’s a case I think called Brady Street, that’s a 2013 decision, Justice Pembroke where the court basically told the solicitor he had to resign as an appointor because he had a conflict in both his position as an appointor representing the beneficiaries and also the fact that he was a lawyer to the trustee. | |
| DT | Wow, well, we’ll include a bit of further information about that case in our show notes. John from Law Central Legal, thank you so much for joining me again on Hearsay. | |
| JW | Thank you, David. Thank you very much. | |
| RD | As always, you’ve been listening to Hearsay The Legal Podcast. I’d like to thank our guest today, John from Law Central Legal, for coming on the show. If you’re an Australian legal practitioner, you can claim one continuing professional development point for listening to this episode. Whether an activity entitles you to claim a CPD unit is, as you well know, self-assessed but we suggest this episode entitles you to claim a substantive unit. More information on claiming and tracking your points on Hearsay can be found on our website. Hearsay The Legal Podcast is brought to you by Lext Australia, a legal innovation company that makes the law easier to access and easier to practice, and that includes your CPD. Hearsay is recorded in Sydney on the lands of the Gadigal people of the Eora nation, and we would like to pay our respects to elders past and present. Thank you for listening and see you all on the next episode of Hearsay. |
You must be a subscriber to access this content.