A trust is a legal structure where the person setting it up (settlor) settles assets or property, which are to be applied for the benefit of beneficiaries. Trust assets are owned and managed by trustees on behalf of the beneficiaries.

There are usually two or more trustees often including an independent trustee (who is not a beneficiary), and a number of beneficiaries such as your children, grandchildren and other relatives. Beneficiaries can be people as yet unknown by name (such as future children or grandchildren, or a future spouse). It is possible to add discretionary beneficiaries at a later date, although not “final” beneficiaries (unless the existing final beneficiaries agree).
 
Under current NZ tax law any person who settles assets on a trust, or provides assets to a trust for less than full market value, is deemed to be a settlor.  When a trust is originally formed it is usual for a nominal “settlement sum” to be settled on the trust, and until this happens the trust has not been “settled”.

You probably need a trust if: 

• You own assets and want to ensure that when you die your assets are protected and go to your loved ones as you intended 
• You have a business and want to protect your home and other assets from creditors or the risk of business failure 
• You want to protect your assets from the possibility of being personally sued 
• You want to increase the chances that you will be eligible for rest home subsidies in your old age 
• You want to ensure that if estate duty, death duties or capital gains tax is introduced you are protected as much as possible 
• You want to protect yourself or your children from financial loss due to relationship failures 
• You wish to minimise your personal income for some reason, such as being eligible for a means tested government grant or minimising income for child support purposes (professional advice needs to be taken as government agencies and IRD can challenge artificial arrangements that lack commercial reality) 
• Tax efficiencies are important to you. Tax laws are constantly changing and we do not recommend using a trust solely to save tax. However, a trust can offer tax planning flexibility and can in some instances help to minimise tax. 

Modern trusts are relatively flexible and should be set up with a medium to long term mindset.  A trust can operate for up to 80 years before the trust assets must be distributed to beneficiaries. However, the trustees can decide to wind up the trust before the 80 years have elapsed. Often the trust will run for the life of the settlor / settlors. Once the settlors have died and the beneficiaries are competent adults, the trustees would usually distribute the trust’s assets to beneficiaries.   Settlors often sign a “memorandum of wishes”, a document to guide trustees in the event of the settlor’s death.

Modern trusts can be set up to ensure that when distributions are made that they go direct to new trusts set up by the beneficiaries themselves. This adds an extra layer of protection and eliminates the need for the beneficiaries to gift their inheritance to their own trust.   Your professional advisor will be able to advise whether this is possible, or whether it will potentially breach the law of Perpetuities.

Most trusts used today are “discretionary” which means that decisions are made at the discretion of the trustees (and usually need to be unanimous). This is a key advantage over leaving assets by will, as it is often difficult to foresee future events. If an estate is distributed by will there is little flexibility available to executors. However, trustees of a discretionary trust have some flexibility to ensure good outcomes for beneficiaries. For example, if a beneficiary is facing business or relationship failure the trustees of a trust may  be able to delay a trust distribution to a more suitable time, whereas the executors of a deceased estate may not be able to do this.

When you set up your trust you should update your will at the same time.  Then, on your death your remaining assets (excluding your personal effects which are usually left directly to your loved ones) can be bequeathed directly to the trust.

Until 30 September 2011 under NZ tax law an individual could only gift $27,000 per annum with out paying gift duty.  Since transactions between “associated parties” must be made at market value you cannot value your home at say $1,000 and give it directly to your trust without creating a gift (the difference between the market value and the sale price).

Until the recent gifting law change, the most common process of transferring assets to a trust was to value the assets at market value and then sell them to the trust, taking back a loan.  This loan was then progressively gifted at the annual rate of $27,000.  It often took many years, or even a life time, to transfer all your assets to a trust.

On 1 October 2011 gift duty was abolished and now it is possible to gift all your assets to your trust immediately.  We explain some of the matters to consider before you do so in a separate FAQ article on this web site.

Many people ask, “But what happens if I gift my home to my trust and then I want to sell that home and buy another one?”. There should be no difficulty so long as the trustees agree… the trustees would sell the existing home and then purchase a new home.  The process is the same as if you owned the home personally, except the trustees sign the documentation as the vendor of the old home and purchaser of the new home.

Trustees are obligated to make decisions that are in the best interests of the beneficiaries. Although you may personally be prepared to take risks and perhaps stretch yourself financially, trustees cannot usually agree to do so if it would put trust assets at risk. Trustees face a “prudent person” test – what would a prudent person (with the individual trustee’s skills, knowledge and experience) do in similar circumstances?  Trustees can be personally sued if they act negligently, imprudently, or without considering the best interests of all beneficiaries. 

This can become problematic when the settlor (who may also be a beneficiary) wants to borrow money secured against trust assets to invest in a medium to high risk investment, such as a small business. If a trustee felt that the transaction was imprudent, then he or she should veto the decision and/or resign as trustee.

Once you gift your assets to a trust you do lose direct control over those assets.  However if your independent trustee is business savvy and prudent without an emotional or vested interest in the assets, he/she should improve the quality of the trust’s decision making.
 
A trust deed often gives indirect control of the trust to the settlor by way of a “Power of Appointment of Trustees”. This power enables the person(s) holding the Power of Appointment to remove any trustee at any time.

There is no law stipulating that a trust must have an independent trustee, but we strongly recommend it. Ideally the independent trustee will be a professional advisor with a good working knowledge of business, tax and trust law.  A professional independent trustee is usually a better choice than a family friend who can only add limited value to the trust’s decision making, and who is more likely to rubber stamp decisions or become emotionally involved.

Assuming that an appropriate person has been selected to be independent trustee, then the advantages of having an independent trustee include:

• Better decision making (all major trust transactions require the consent and signature of the independent trustee) 
• Good trust administration processes (the independent trustee should be aware of the need for regular meetings, regular review of trust assets and liabilities and the documentation requirements for trustee decisions). 

The disadvantages of having an independent trustee usually relate to additional costs and the inconvenience of having to consult with a third party when making trust decisions.

Even once you have a trust,  your assets may still not be protected. You do need to ensure that the trust is properly administered so that it withstands any challenges, perhaps from creditors or a disgruntled family member. IRD can also challenge your trust if they believe it is a “sham”, lacks commercial reality or is part of a tax avoidance arrangement.   This may be likely if you were using the trust’s assets as if they were still your personal assets.

The government is currently reviewing trust law and we expect some major changes in the way trusts are managed and administered in the future.

One final comment is to beware if any settlors, trustees or beneficiaries are not living in New Zealand.  Trusts are subject to different tax rules in other tax jurisdictions and migration offshore by settlors, trustees or beneficiaries can have unexpected tax consequences, both in New Zealand and in the other tax jurisdiction.  We strongly recommend professional advice is taken when any of the people involved in an existing trust reside outside of New Zealand, or if you are considering setting up a trust involving non residents of New Zealand.

In summary, a trust can be an excellent medium to long term estate planning and asset protection tool. But setting up the trust is only the first step. To maximise the real value of having a trust it must be managed, maintained and planned on an ongoing basis - just like the assets and investments that the trust may eventually own. The real benefits of having a well planned and maintained trust are usually in the future, often when something in your life goes wrong.
 
We strongly recommend that you discuss setting up a trust or how to best maintain and use your existing trust with your StreetSMART advisor.