BY WEALTH ADVISER
Introduction:
The Complexity of Wealth Preservation In the intricate world of financial planning and wealth management, few areas are as complex and consequential as the intersection of family trusts, deceased estates, and taxation. For many Australians, these topics represent a maze of legal, financial, and administrative challenges that can significantly impact their ability to preserve and transfer wealth effectively.
The scale of this issue is substantial. According to the Australian Financial Review, as cited by Greg Russo:
“...the Australian Taxation Office estimates that there are well over 800,000 Family Trusts in Australia, controlling more than $3 trillion of assets.”
This staggering figure underscores the prevalence and importance of family trusts in the Australian financial landscape. However, the complexity doesn’t end with the establishment of a trust. As we delve deeper into the subject, we’ll discover that even death doesn’t bring an end to financial obligations and considerations.
In fact, as noted in the AdviserVoice article, “Everyone knows the famous Benjamin Franklin quote about death and taxes, but not everyone is aware that tax obligations continue after death.” This ongoing responsibility adds another layer of complexity to the already challenging task of wealth preservation and transfer.
Family Trusts: A Powerful Tool for Asset Management
At the heart of many wealth preservation strategies lies the family trust. But what exactly is a family trust, and why has it become such a popular financial structure in Australia?
Legal Framework of Trusts
Greg Russo provides a concise explanation of the legal framework:
“A trust is not a legal person like a company or an incorporated association. Trusts can be understood in terms of the relationships that they create between the legal owner of assets and the beneficial owner of assets.”
This separation of legal ownership and beneficial ownership is key to understanding the power and flexibility of family trusts. As Russo further explains: “Family trusts effectively split ownership and control in property between trustee and beneficiaries."
The family home often represents a significant portion of an estate’s value, and its tax treatment after death can have substantial implications.
Key Components of Family Trusts
To fully grasp the structure of a family trust, it’s essential to understand its key components:
1. Trustee: The person or company responsible for administering the trust on a day-to-day basis.
2. Appointor/Principal/Guardian: The entity with the ultimate power to control the trust through the ability to remove and appoint trustees.
3. Beneficiaries: The individuals, companies, other trusts, or charities that may benefit from the trust.
Advantages of Family Trusts
The popularity of family trusts stems from their significant advantages, particularly in the areas of taxation and asset protection. From a taxation perspective, trusts offer flexibility in income allocation. As Russo notes, “The flexibility of trusts may allow a trustee to allocate future income between a class of beneficiaries in a flexible and tax effective manner.” In terms of asset protection, family trusts can offer a shield against insolvency. Russo points out that “Family trusts can offer protection against insolvency of a trustee, beneficiary, or appointor.” This combination of tax efficiency and asset protection encapsulates the essence of why many choose to establish family trusts. As John D. Rockefeller famously said, and as quoted by Russo, the goal is to “own nothing, but control everything.”
Disadvantages of Family Trusts
However, it’s crucial to acknowledge that family trusts are not without their drawbacks. Russo highlights several key disadvantages:
Ongoing administrative costs
Increased complexity in financial structure
Complicated and somewhat uncertain taxation aspect
These factors underscore the importance of careful consideration and professional advice when deciding whether a family trust is the right strategy for an individual’s financial situation.
Deceased Estates and Ongoing Tax Obligations
While family trusts can be powerful tools for wealth management during one’s lifetime, the story doesn’t end with death. In fact, managing the tax obligations of a deceased estate can be one of the most challenging aspects of estate administration.
Steps to Finalise Tax Matters for Deceased Estates
The AdviserVoice article outlines several crucial steps that must be taken to finalise the tax matters of a deceased estate:
1. Notify the ATO of the death
2. Determine whether a grant of probate or letters of administration is needed
3. Notify the ATO about who is managing the estate.
4. Manage any business tax obligations if applicable
5. Check if a final tax return for the deceased needs to be lodged
The ‘Date of Death’ Tax Return
A key concept in managing deceased estates is the ‘date of death’ tax return. As explained in the AdviserVoice article:
“This is called a ‘date of death’ tax return and covers the income year in which the person died, up to the date of death.”
This return must include all income earned up to the date of death, including salary, investment income, capital gains, and taxable superannuation income.
Treatment of the Family Home
The family home often represents a significant portion of an estate’s value, and its tax treatment after death can have substantial implications. The AdviserVoice article notes: “If the deceased purchased the property before 20 September 1985 and is inherited after this date, the property is valued at its market value at the date of death of the property owner and beneficiaries generally have two years to sell the property to qualify for a CGT exemption.” For homes purchased after 20 September 1985, different rules apply, particularly concerning the main residence CGT exemption.
Capital Gains Tax Considerations
Both articles emphasise the importance of understanding capital gains tax (CGT) in the context of deceased estates. As Russo points out, “capital gains are still taxable after death, but capital losses die with the deceased.” This asymmetry in the treatment of gains and losses highlights the need for careful tax planning, both before and after death.
Superannuation and Estate Planning
Superannuation forms a significant part of many Australians’ wealth, and its treatment in estate planning requires special consideration.
Superannuation and Deceased Estates
The AdviserVoice article emphasises an important point about superannuation and deceased estates:
“...super death benefits don’t automatically form part of a deceased member’s estate. This is because super isn’t considered to be a personal asset that’s owned in the client’s own name; it’s held in trust by the super fund’s trustees.”
This distinction has important implications for how superannuation is distributed after death and how it’s taxed.
Tax Implications of Superannuation Death Benefits
The taxation of superannuation death benefits depends on several factors, including the relationship between the deceased and the beneficiary, and whether the benefit is paid as a lump sum or an income stream.
As the AdviserVoice article explains:
“Superannuation lump sum death benefits are tax free if paid to a ‘death benefits dependant’ for tax purposes.”
The definition of a ‘death benefits dependant’ is specific and includes spouses, children under 18, and individuals in an interdependency relationship with the deceased.
Self-Managed Super Funds (SMSFs) in Estate Planning
For those with Self-Managed Super Funds, estate planning takes on additional complexity. The AdviserVoice article advises:
“When creating an estate plan for clients with an SMSF, it is important to:
• ensure the estate plan transfers control of the SMSF, including the power to pay death benefits, in line with the client’s wishes
• consider whether a binding death benefit nomination should be made.”
Integrating Family Trusts in Estate Planning
While not directly addressed in the AdviserVoice article, it’s worth noting that family trusts can play a crucial role in estate planning. As Russo points out:
“The ability of trusts to be able survive the passing of (or loss of capacity of) a trust controller creates both opportunities and complexities when addressing succession of control issues that arise in estate planning.”
This highlights the potential for family trusts to be used as part of a comprehensive estate planning strategy, potentially in conjunction with careful superannuation planning.
Strategies for Effective Wealth Preservation and Transfer
Given the complexities involved in family trusts, deceased estates, and their associated tax implications, developing effective strategies for wealth preservation and transfer is crucial.
Importance of Proper Estate Planning
Both articles underscore the critical nature of thorough estate planning. As Russo notes in his case study: “When estate planning, family trust controllers need, in addition to executing a will to deal with estate assets, to make provision for the succession of family trust control.” This highlights the need for a comprehensive approach that considers all aspects of an individual’s financial situation, including trusts, superannuation, and other assets.
Strategies for Minimising Tax Liabilities for Beneficiaries
Several strategies can be employed to minimise tax liabilities for beneficiaries. These may include:
1. Careful structuring of family trusts to allow for flexible and tax-effective income distribution
2. Strategic use of the main residence CGT exemption when dealing with the family home in a deceased estate
3. Thoughtful planning of superannuation death benefit nominations to ensure benefits are paid to ‘death benefits dependants’ where possible
Intergenerational Wealth Transfer
The scale and importance of intergenerational wealth transfer in Australia cannot be overstated. As the AdviserVoice article notes: “The Productivity Commission’s 2021 report highlights an expected A$3.5 trillion intergenerational asset transfer in Australia by 2050, making estate and related tax planning an integral part of the advice process.
This staggering figure underscores the critical need for effective wealth preservation and transfer strategies.
Conclusion
Navigating the maze of family trusts, deceased estates, and tax strategies for wealth preservation is a complex and challenging task. The interplay between these various elements requires careful consideration and expert guidance.
As we’ve seen, family trusts can be powerful tools for asset management and protection, but they come with their own complexities and ongoing responsibilities. Similarly, the management of deceased estates involves a range of tax obligations that continue long after an individual’s passing.
The role of superannuation in estate planning adds another layer of complexity, with its unique tax treatment and distribution rules. All of these elements must be carefully considered and integrated into a comprehensive wealth preservation and transfer strategy.
Given the scale of intergenerational wealth transfer expected in Australia in the coming decades, the importance of getting these strategies right cannot be overstated. As both Russo and the AdviserVoice article emphasise, seeking professional advice is crucial in navigating these complex matters.
Ultimately, while the maze of wealth preservation may be complex, with careful planning and expert guidance, it’s possible to create strategies that effectively protect and transfer wealth, ensuring a lasting financial legacy for future generations.
References:
1. Russo, G. (2024, October 16). The nuts and bolts of family trusts. Greg Russo Law. [Source: paste.txt]
2. AdviserVoice. (2024, October 4). Deceased estates and tax. AdviserVoice. [Source: paste-2.txt]
3. Australian Taxation Office. (n.d.). Deceased estates. Retrieved from https://www.ato.gov.au/individuals/deceased-estates/
4. Productivity Commission. (2021). Wealth transfers and their economic effects. Retrieved from https://www.pc.gov.au/research/ completed/wealth-transfers
5. Australian Securities and Investments Commission. (n.d.). Estate planning. MoneySmart. Retrieved from https://moneysmart.gov.au/ estate-planning
6. Law Council of Australia. (2021). Succession law. Retrieved from https://www.lawcouncil.asn.au/policy-agenda/advancing-theprofession/succession-law
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