What is a Family Trust?
A family trust, also known as a discretionary trust, is one of the most flexible and tax-effective structures used by Australian families, business owners, and investors.
At its core, it’s a legal arrangement where a trustee (either an individual or a company) holds assets, like property, shares, or business income, on behalf of beneficiaries. What makes it “discretionary” is that the trustee decides how much income or capital each beneficiary receives.
This flexibility allows families to manage income distribution strategically, making it a valuable tool for both tax planning and asset protection.
How a Family Trust Works
A family trust starts with a trust deed, a legal document that sets the rules for how the trust operates. It names the trustee, the beneficiaries, and an appointor, the person with the power to replace the trustee.
The trustee manages the assets and decides how income or profits will be distributed each financial year. For example, the trustee might allocate more income to a beneficiary on a lower tax rate, helping minimise the family’s overall tax burden.
In other words, you can manage wealth within your family in a way that’s both compliant and efficient, while maintaining control over how assets are handled.
How Family Trusts Are Taxed
One of the biggest benefits of a family trust is its tax transparency. The trust itself generally doesn’t pay tax (unless income is retained). Instead, beneficiaries pay tax on the income they receive at their individual tax rates.
Here’s how it typically works:
- Distributed income: Taxed in the hands of the beneficiaries.
- Undistributed income: Taxed at the highest marginal rate (47%).
- Capital gains and franking credits: These can “flow through” to beneficiaries, depending on the trust deed and ATO rules.
By distributing income strategically, trustees can reduce the family’s overall tax liability, one of the main reasons this structure remains popular with business owners and investors.
Benefits of a Family (Discretionary) Trust
Family trusts are more than just a tax tool; they’re a smart way to protect assets and build long-term wealth.
Here are the key advantages:
- Tax flexibility: Income can be distributed to family members in lower tax brackets.
- Asset protection: Assets held in a trust are legally separate from individuals, offering protection against personal liability.
- Capital gains tax (CGT) discounts: Eligible beneficiaries can access the 50% CGT discount if assets are held for over 12 months.
- Estate planning: Control how wealth is managed and passed on to future generations.
- Business efficiency: Profits from family businesses can be distributed strategically across family members.
Common Risks and ATO Compliance Issues
While flexible, family trusts also come with responsibilities. The ATO closely monitors trust activity, particularly around income distribution and record-keeping.
Here are some common pitfalls:
- Missed trustee resolutions: Distribution decisions must be made before 30 June each year.
- Incorrect trust deeds: Outdated or poorly written deeds can invalidate distributions.
- Non-family distributions: If you’ve made a family trust election, only certain beneficiaries can receive income.
- Retained income: Any income not distributed is taxed at the top marginal rate.
- Poor documentation: Inconsistent minutes or resolutions can trigger audits or penalties.
When to Use a Family Trust
A family (discretionary) trust can suit a variety of situations, especially if you:
- Own an investment property or run a family business
- Want flexibility in distributing income to family members
- Are building intergenerational wealth and want better asset protection
- Need a structure that supports both business growth and succession planning
However, if you need fixed ownership entitlements, such as in partnerships between unrelated parties, a unit trust may be a better fit.
Is a Family Trust Right for You?
A family trust can be a powerful tool for tax management, asset protection, and long-term wealth planning but only when structured and managed correctly.
Before setting one up, it’s important to:
- Review your financial goals and business structure
- Understand the tax implications for all beneficiaries
- Get professional advice to ensure your trust deed and setup meet ATO standards
At Chan & Naylor, we help Australian families, investors, and business owners establish ATO-compliant family trust structures that align with their goals. From drafting trust deeds to managing tax distributions, our team ensures your trust works for your wealth, not against it. Reach out to our friendly team for more information.
