Which Structure is Best?
For the vast majority of clients, a family/discretionary trust is the structure that will most likely be considered the best option during the business setup phase.We say 'vast majority' because one size does not fit all!For example, if your client is planning to:
claim the R&D Tax Offset - a company is the starting point to consider as the best structure at the business setup phase
undertake a business venture with other parties - a unit trust is the starting point to consider
Tax Tip
Begin with a family/discretionary trust as the starting point but then consider if another structure is more suitable depending on your client’s particular needs.
Family/discretionary trust v sole trader?
If your client plans to be a sole trader – do they need to have a family/discretionary trust?
It is important to distinguish between a sole trader (individual) with and without employees.
(A) Tax consideration
For an individual without employees, the tax implications for them as a sole trader (through their individual tax return) versus a family/discretionary trust tax return will be, in most circumstances, the same.
This is because the individual’s income, even if they conduct a personal services business (PSB), will be for personal exertion and wholly taxed to the individual even if they have a family/discretionary trust.
For completeness, if the family/discretionary trust distributes to a family member (who is not involved in the business), Part IVA will apply tax to that individual.
We use the words ‘in most circumstances’ in the paragraph above, because there are exceptions, for example, an individual without employees who develops a valuable item of intellectual property (IP), will be able to stream trust income to a family member (who is not involved in the business) because the IP created the income and the streamed trust income was not from the individual’s personal exertion.
Note the complicated issue of section 100A (reimbursement agreements) that apply to streaming trust income – which will be the subject of different tax tip.
For an individual with employees, the tax implications for them if they are using a family/discretionary trust structure are better than if they were completing an individual tax return.
This is because there is a reasonable argument the extra revenue earnt by the employee, over and above the personal exertion income earnt by the owner, is generated from a valuable asset (referred to as goodwill) and enables streaming of trust income to a family member (who is not involved in the business) because the goodwill created the income and not from the owner’s personal exertion.
For example, if an owner earnt $200 net profit from a job and, through an employee, earnt another $120 net profit from a second job that the employee solely undertook, that $120 was not from personal exertion of the owner because they were busy on the first job. The employee generated the $120 net profit from the second job and this enables streaming of that net profit to a family member.
Stamp Duty
Some Australian states impose stamp duty for forming a family/discretionary trust, for example, $500 in NSW but which is not an earth shattering cost.
Administration
There are more costs involved in a family/discretionary trust including trust establishment costs, trustee establishment costs (if using a corporate trustee), annual trust tax returns, annual trust resolution, annual company fees (if using a corporate trustee).
However, where trust income can be properly streamed to a beneficiary to minimise tax, the costs of a family/discretionary trust needs to be weighed against the tax savings.
Finally, a sole trader has zero asset protection whereas a family/discretionary trust provides a better level of asset protection.
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