When buying an investment property, the ownership structure you choose can have significant implications for your tax and overall financial position. Trusts are steadily becoming a popular ownership structure for Australian property investors due to the tax benefits, asset protection and estate planning advantages they offer. At first glance, whilst this may seem like a no-brainer, there are also disadvantages that need to be considered when purchasing an investment property using a discretionary trust.
What is a trust?
Trusts are widely used for investment and business purposes. A trust is an obligation imposed on a person or other entity to hold property for the benefit of beneficiaries. While in legal terms a trust is a relationship, not a legal entity, trusts are treated as taxpayer entities for the purposes of tax administration.
The trustee is responsible for managing the trust’s tax affairs, including registering the trust in the tax system, lodging trust tax returns and paying some tax liabilities. Beneficiaries (except some minors and non-residents) include their share of the trust’s net income as income in their own tax returns. The trust can borrow money and invest in property that will be held in the name of the trust on behalf of the beneficiaries
Why buy property in a trust?
The advantages to buying an investment property through a trust structure are:
- Asset Protection. Buying in a trust provides asset protection as the ownership of the asset is removed from yourselves as individuals. This works well when you are in business as it means if there was an event in the business where you as a director were found to be personally liable, the property in most cases would not be an asset available to creditors. The important point to understand with this is that the bank will take the security of the property for the loan, this means the trust is protecting the equity in the property. The equity in the property will be minimal when you purchase but will improve as you pay down the debt and as the property increases in value.
- Profit Sharing & Tax Benefits. As a trust, you can distribute profits of your investment at your discretion in the most tax-effective manner, helping to minimise the tax liability of each beneficiary. This can be a real benefit if you have kids over 18 or if you have retired parents who are not accessing government pensions.
- Estate Planning. Each trust features a trust deed that clearly specifies what will happen to each beneficiary’s share on their death, ensuring no messy battles for the property within the family. The unique structure of a trust also allows the passing of the family estate from one generation to another without incurring any stamp duty or other expenses.
Things to be wary of when buying property using a trust
The disadvantages to buying an investment property through a trust structure are:
- Complexity. Trusts can be harder to obtain finance for as most lenders require all adult beneficiaries to act as guarantors when approving a trust loan (once facilities are in place this becomes a non-issue).
- Trust can’t distribute losses. If the trust makes a capital loss or a rental loss on an investment property, there is no option to offset that loss against other investment income. This means that any negative gearing benefits will be quarantined until there is profit in the trust (this can be significant depending on the property).
- Land tax. Trusts are taxed at surcharge rates http://www.sro.vic.gov.au/ltxcurrentrates the impact of this will depend on the land value of your investment property.
How to set up a family trust?
Setting up a trust is quite simple once you have determined the trustee and the beneficiaries of your trust and have drafted the trust deed that will govern how your trust will function. Once the trust deed has been signed, the settler, who is generally not related to the beneficiaries, must place a nominal sum of $10 to $100 in the trust. The state government will then review the trust deed. Every trust must apply for an Tax File Number upon establishment as well as set up a dedicated bank account for carrying out the business of the trust. At The Field Group Accounting we can provide expert help in setting up a trust for your needs.
There is no right or wrong structure for purchasing an investment property. If you view your business a significant risk and asset protection as a priority, purchasing through your trust might be the best option. If you view this risk to be low, you might be better off purchasing in your own name to keep your affairs simple, access the immediate tax benefits (negative gearing) and keep Land Tax minimal. To find out whether a property trust is right for you, contact us at The Field Group for assistance specifically tailored to your situation.
This document contains general advice only and is prepared without taking into account your particular objectives, financial circumstances and needs. The information provided is not a substitute for legal, tax and financial product advice. Before making any decision based on this information, you should speak to a licensed financial advisor who should assess its relevance to your individual circumstances. While The Field Group believes the information is accurate, no warranty is given as to its accuracy and persons who rely on this information do so at their own risk. The information provided in this bulletin is not considered financial product advice for the purposes of the corporations Act 2001.