Risks of new Trusts Rules

There have been a lot of rule changes for trusts over the past few years – and now Inland Revenue has introduced another tweak, one you need to know about if you use trusts to protect your assets.

Who’s who when it comes to trusts

To understand the new rule, you need to know the key roles within a trust:

  • The Settlor set up the trust or moves assets into the trust; there can be more than one settlor. For example you might set up a trust to protect your family home from claims against your business – you are the settlor.

  • The Beneficiaries are those who receive benefits from the trust or the assets it holds. For example, your children or partner.

  • The Trustees are the people appointed to manage the trust. For example, the trustees might be you, your partner, and a professional advisor.

The new rule can turn beneficiaries into settlors

For tax reasons, trusts often make income distributions to beneficiaries without actually paying that money out to the beneficiaries. The money will sit in a beneficiary account and be recorded as money owed to the beneficiary. In the past, this hasn’t been a problem.

Now under the new rules, if a beneficiary account has a balance of more than $25,000 owing to them Inland Revenue considers the beneficiary to automatically become a settlor of the trust for tax purposes. The flow on effect of this is that under the new Trust Disclosure Rules that come into effect for the 2022 year, full details of all trust settlors and the value of those settlements must be provided to IRD in the Trust’s income tax return.

This might not be a problem but there are a lot of scenarios where it can become an issue. For example, if your child is a settlor and they get into trouble with a property – the trust could be ‘tainted’ by the associated persons rules, possibly putting your assets at risk. There are also potential tax issues around the bright line test for gains on residential property and settlors with foreign residence.

What should you do if you have a trust?

If you have a trust, get in touch with the team at Thrive CA and talk to us about your options. You may not need to do anything, but it’s important to understand any potential pitfalls. There are ways to prevent beneficiaries becoming settlors without paying them out the distributions, so give us a call – we’re here to help.