Understanding Family Trust Beneficiary Income Allocations and Drawings Post Tax Rate Change.
Starting from the 2024/25 financial year, the tax rate for trustee income has increased from 33% to 39%, aligning with the top personal tax rate.
This change, effective 1 April 2024, brings potential tax avoidance concerns related to beneficiary income allocations.
A trustee distributing income to a beneficiary so that it is taxed at the beneficiary's rate rather than the trustee's rate is generally not considered tax avoidance if done in accordance with the trust deed, trust law and tax law.
While tax considerations can influence the trustee's allocation decisions, as long as the distributions are legitimate and free from artificial features, they are unlikely to raise avoidance concerns. However, issues may arise if the beneficiary is not genuinely entitled to or benefiting from the distribution, common in distributions to children.
Benefiting Children Through Family Trusts
A family trust can use funds to benefit children in various ways, including education, healthcare, living expenses, savings, special needs, recreational activities, transportation and life events. Trustees must ensure all expenditures align with the trust deed, genuinely benefit the children and maintain accurate records. By adhering to these guidelines, trustees can effectively support the wellbeing and development of children.
Inland Revenue's Guidance on Tax Avoidance
With the new tax rate, trustees are concerned that some common actions may be deemed tax avoidance. Inland Revenue has issued guidance confirming that specific actions are unlikely to be considered tax avoidance.
These actions include:
· Dividend Policy Changes: Altering a company's dividend-paying policy.
· Income Distribution: Distributing income to a beneficiary taxed at a lower rate.
· Incorporating Companies: Forming a company and transferring income-earning assets to it.
· Winding Up Trusts: Dissolving the trust.
· Investing in PIEs: Choosing to invest in a portfolio investment entity taxed at a maximum of 28%.
However, certain practices might raise tax avoidance concerns if they appear artificial:
· Resettlement Schemes: If a beneficiary resettles income back into the trust without benefiting.
· Uninformed Beneficiaries: Allocating income without the beneficiary's knowledge or expectation.
· Artificial Loans: Replacing dividend income with loans that do not reflect reality.
· Timing Alterations: Artificially changing the timing of payments.
· Non-Reflective Transactions: Creating or increasing income or expenses that do not reflect reality.
The increase in the trustee tax rate to 39% represents a significant change for New Zealand family trusts. Trustees must navigate these changes carefully, ensuring compliance with Inland Revenue's guidance to avoid actions deemed tax avoidance. By understanding the new tax implications and adhering to best practices, trustees and beneficiaries can manage their trust arrangements effectively and legally.
For more information please call us, we’re here to help.
Disclaimer – While all care has been taken, Johnston Associates Chartered Accountants Ltd and its staff accept no liability for the content of this article; always see your professional advisor before taking any action that you are unsure about.
JOHNSTON ASSOCIATES, Level 1, One Jervois Road, Ponsonby, T: 09 361 6701, www.johnstonassociates.co.nz
30 July 2024
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