Are your Australian Trusts Ticking Time Bombs?

25/11/2020

Property Law

Are your Australian Trusts Ticking Time Bombs?

Please take special note of this article + seek urgent legal advice if you have or are contemplating Australian Investment, Business +/or Property dealings via your Family/Discretionary/Testamentary Trusts. If your respective Trust Deeds irrevocably prohibit distributions to beneficiaries who are foreign persons you have already circumvented the legal issues & potential civil + criminal liabilities raised in this article. if not, please read on …

Contents

Tick … Tick … Tick …

NSW Example: Remember to consider company shareholders

The Foreign Investment Review Board's screening + approval regime

Mitigating the Risk via your Family/Discretionary Trust Deed

Testamentary Trusts in Estate Planning

Are your trusts liable for Surcharge Land Tax (retrospectively from 2016) + Purchaser Duty?

What action do you need to take?

Tick … Tick … Tick …

All Family/Discretionary Trust Deeds (and Testamentary Trusts) contain broad definitions of eligible beneficiaries in order to provide as much flexibility as possible for Trust Distributions.

This article covers what Federal/State/Territory legislative triggers might be pulled when:

➲ One or more of the potential beneficiaries (they don't even need to be an actual beneficiary) of your Family/Discretionary/Testamentary Trust is or becomes a foreign person/non-resident of Australia.

This could mean that long-lost siblings, uncles, aunts, nephews or even kids who may be residing offshore as part of their professional or lifestyle pursuits could be or become foreign persons/non-residents + trigger the operation of Federal/State/Territory legislation.

NSW Example: Remember to consider company shareholders

If an Australian company could also be a potential beneficiary of the Family/Discretionary Trust, then:

➲ Where the company has shareholders with a substantial interest [who are not Australian Citizens or NZ Citizens holding a special category Australian Visa*] + not ordinarily resident in Australia; then

➲ The Trust would be deemed to be a foreign person for the purposes of the relevant NSW State legislation.

*An Australian citizen or NZ Citizen holding a special category Australian Visa, including a person who holds dual citizenships (one of which is an Australian citizenship), is not a foreign person under any circumstances, whether or not the person is ordinarily resident in Australia.

Section 104J of the Duties Act 1997 NSW modifies the definition of foreign person in the relevant Commonwealth legislation.

Please refer to the example below:

Source: revenue.nsw.gov.au/help-centre/...

Note: The above result is changed and any potential liability to the NSW State Revenue would be circumvented if the XYZ Discretionary Trust Deed contains a clause to irrevocably exclude any foreign person as defined under the Duties Act 1997 and Land Tax Act 1956 from benefitting from the Trust.

This means that the trustee of XYZ Discretionary Trust would not be classified as a foreign person for the purposes of the relevant NSW Legislation.

For the purposes of Commonwealth legislation: An Australian Citizen or NZ Citizen holding a special category Australian Visa could potentially be classified as a foreign person if they ordinarily reside overseas as the above modification only applies to NSW.

The Foreign Investment Review Board's screening + approval regime

Simply having extended family members included in a class of beneficiaries, even if they are extremely unlikely to benefit from a distribution could mean that your Family/discretionary Trust is subject to the obligations imposed by the Foreign Acquisitions and Takeovers Act 1975 (FATA).

This would include the requirement to seek permission from the FIRB for investments by the Trust in Australian property or business and potential liability to lodge an annual return with the ATO providing evidence of property occupancy + potentially be liable to pay the new Vacancy Tax.

If it is theoretically possible (even if your Family/Discretionary Trust does not make any distributions..) that a Trust Distribution could be made to a foreign person/non-resident, then your Family/Discretionary Trust Deed is a ticking time bomb!

Failure to comply with these obligations creates the potential for Foreign Investment Review Board [FIRB] civil + criminal penalties with hefty fines of up to $787,500 or 10 percent of the property value.

Who is a “Foreign Person” according to the FIRB?

The Foreign Investment Review Board [FIRB] definition of Foreign Person under the Foreign Acquisitions and Takeovers Act 1975 (FATA):

The Foreign Investment Review Board [FIRB] Guidance Notes explain that the definition of a “Foreign Person” includes the trustee of a discretionary trust that has any potential beneficiary who is a non-resident.

Mitigating the Risk via your Family/Discretionary Trust Deed

This risk can be mitigated by:

1️⃣ Ensuring your Original Trust Deed prevents trust distributions to foreign persons [our Family/Discretionary Trust Deed is setup to ask whether or not foreign persons should be prevented from being potential beneficiaries. The prevention is revocable, unless specified otherwise]; or if this is not the case

2️⃣ Amending your Existing Trust Deed to have this effect.

Creating your new Family/Discretionary Trust or making the required amendments to your Existing Trust Deed to prevent trust distributions to foreign persons, and deciding whether or not the prevention needs to be made revocable or irrevocable* should be done in consultation with our legal team.

Please refer to the discussion below if your Trust has or will have any dealings of any kind with Residential Land.

In NSW this includes leases with a term (including option periods) of more than 3 years, and all kinds of residential property including vacant land, dwellings and strata titled properties.

Failure to mitigate the risk creates the potential at the federal legislation level for:

➲ Foreign Investment Review Board [FIRB] civil + criminal penalties with hefty fines of up to $787,500 or 10 percent of the property value; +

➲ Combined Vacancy Tax liability + penalties of more than $150,000 [even if the property has been occupied throughout the year] for those who fail to keep adequate records and miss the deadline to lodge a return declaring occupancy of their assets with the Australian Taxation Office (ATO).

Residential Land ➲ Make the prevention in the Trust Deed Revocable or Irrevocable*?

There have recently been many questions about changes in how trusts are treated at the state/territory level for the purpose of calculating liability to Land Tax + Purchaser Duty (if applicable).

These queries have arisen because on 24 June of this year, the NSW State Revenue Legislation Further Amendment Act 2020 was passed into law.

This makes NSW the fourth Australian state or territory (after QLD, VIC and the ACT) to impose surcharges on foreign persons holding real property.

The NSW legislation is the strictest in terms of its requirements on discretionary trusts to exclude foreign persons.

The definition of foreign person differs depending on the legislation, and important exemptions may apply.

NSW has effectively become the benchmark for Australian trusts as compliance in NSW implies compliance elsewhere.

Testamentary Trusts in Estate Planning

It is important to note that in addition to Family/Discretionary Trusts the same considerations discussed above at the State/Territory level extend into instances where a Testamentary Trust has been or is planned to be used for Estate Planning purposes.

Our Smarter Will incl. Testamentary Trust as well as our other Estate Planning Smarter Wills including Testamentary Trusts are all setup by default to guide you through the decision of whether or not to revocably or irrevocably exclude trust distributions to foreign persons.

Are your trusts liable for Surcharge Land Tax (retrospectively from 2016) + Purchaser Duty?

The amended legislation in NSW deems the trustees of all discretionary trusts liable for Surcharge Land Tax (2% annually ➲ retrospectively from 2016) + Surcharge Purchaser Duty (8% of the purchase price) unless the Trust Deed expressly provides that:

1️⃣  No foreign person can be a “potential beneficiary”, and

2️⃣ The terms of the Trust Deed cannot be amended to allow a foreign person to become a potential beneficiary in the future (the “no amendments clause”).

Any Will (or Codicil) allowing for Testamentary Discretionary Trusts executed after 31 December 2020 must include clauses which irrevocably exclude foreign persons from being beneficiaries in order to avoid the surcharges.

It’s important to note that the changes to the legislation are retrospective so that any surcharges will be applied from 2016 onwards (when they came into force).

Testamentary Discretionary Trusts formed through Wills (and Codicils) executed before 31 December 2020 are not considered foreign persons if no foreign persons are beneficiaries of the trust even if no clause irrevocably excluding foreign persons from becoming beneficiaries is included in the Trust terms.

However, Testamentary Discretionary Trusts arising from Wills executed after 31 December 2020 must include the “no amendments clause” for trustees not to be considered foreign persons.

What action do you need to take?

Existing Family/Discretionary Trusts

For existing trusts formed using our Family/Discretionary Trust Deed, if foreign persons are already excluded then you need not take any further action.

Suppose foreign persons are not excluded, and there is a possibility of the trust acquiring or dealing with NSW real property.

In that case, you should decide whether or not to form a new trust which irrevocably excludes foreign persons.

There are many factors to consider when making this decision, the surcharges being just one of them.

Existing Wills with our model Testamentary Discretionary Trust [TDT] terms

Concerning existing Wills (or Codicils) with our model TDT terms included, you have two possible courses of action available to you:

1️⃣  Do nothing. (No, this isn’t an invitation to be lazy or reckless).

Under the Trust Terms clause, our Smarter Wills allow executors of the Will to make variations to the model terms included with the Will when forming the Trust.

As such, you can leave it to the discretion of the executors to make the right decision regarding the needs of the beneficiaries at the time that the TDT is formed; or

2️⃣ Add a Codicil to the Will to amend the model TDT terms.

If you believe that there is a possibility that the TDT will include NSW real property and you are concerned that the executors of the Will do not have the requisite understanding to vary the terms of the TDT in order to avoid the surcharge themselves, then you can include new model TDT terms in the Will that explicitly and irrevocably exclude foreign persons from becoming beneficiaries of the TDT.

Note: Even if you do add a Codicil with the above effect, there is nothing in our Will to prevent the executors from using our original model TDT terms or any other variation.

Creating your New Smarter Will/s

In relation to creating your new:

Smarter Will incl. Testamentary Trust;

Smarter Express Will All to Children incl. Testamentary Trust; or

Smarter Express Mutual Mirror Wills for couples incl. Testamentary Trusts.

Our Smarter Wills are all setup by default to guide you through the decision of whether or not to revocably or irrevocably exclude trust distributions to foreign persons.

Credits:

This article was written by James D. Ford GAICD | Principal Solicitor, Blue Ocean Law Group℠.

Cover Image:

Photo by Immo Wegmann on Unsplash

Important Notice:

This article is intended for general interest and information only. It is not legal advice and nor should it be relied upon or used as such. Always consult a lawyer for specialist advice specific to your needs and circumstances.