Family Trust Vesting Tax Implications

Have you looked at your trust deed recently? If you have a family trust, chances are it was set up by your accountant or solicitor, and you didn’t have to do too much of the legwork. Look closely at your trust deed and you’ll notice that it will specify a date on which the interests in the trust vest. There will also be a clause that specifies the consequences of that date being reached.

Put simply, on the vesting date of a trust, the interests in the trust property become vested in interest and possession; the beneficiaries become takers who hold a fixed interest in the capital and income of the trust property. This may have CGT and tax consequences for the trust and the beneficiaries either on vesting or later.

The ATO’s draft ruling seeks to clarify when the vesting date can be changed and the consequences of a trust vesting.

Broadly, the draft ruling states that prior to the vesting date, it may be possible for the trustee or a Court to postpone the vesting of the trust by nominating a later vesting date. Once the vesting date has passed however, it is not possible to change the vesting date as the trust has vested. According to the ATO, the consequences of vesting cannot be avoided by the parties continuing to carry on as though the trust had not vested or by an exercise of power to vary the trust deed.

Once the trust vests, depending on the clauses contained in the deed, there could be no CGT consequences, the creation of a new trust could occur, or a situation could arise where a beneficiary becomes absolutely entitled to the assets of the trust which might give rise to CGT. The outcome depends entirely on the clauses contained in the deed and is different in each individual case as each trust deed is different.

The income of a trust after vesting is also taxed differently. Prior to vesting, the trustee had discretionary power to distribute the income or capital of the trust to certain beneficiaries entitled under the trust. However, after the vesting of the trust, the beneficiaries hold their present entitlement to the trust in proportion to their vested interests in the property of the trust and are assessed on that proportion.

An example to illustrate this concept would be, prior to the vesting of the ABC Trust, the trustee determined that all the income would go to beneficiary X. At the vesting date, the trust deed specified that the trustee was to hold the trust property in equal shares for beneficiary X, Y and Z. Therefore, for the income year that the trust vests, beneficiaries X, Y and Z are assessable on 1/3^rd each of the share of the net income of the trust that relates to their share in the total income of the trust estate.

Vesting of a trust is a very complex matter and needs to be treated very carefully. The tax consequences arising from a trust vesting could be very significant for both the trust and beneficiaries. Once the trust has vested, the consequences cannot be undone by either the trustee or the courts. Therefore, understanding your own trust deed and strategic forward planning is advisable to ensure that the purpose of the trust is met and maintained and there are no adverse tax or CGT consequences.