You cannot use trusts to avoid tax in the way you could previously.
If you or your minor children have received income from trusts that you
formed for your own or your minors` benefit you are expected to fill this
in in part 14.9 of your tax return.
In the past trusts have offered a fairly tax efficient way to of arrange
your financial affairs, giving you the opportunity to reduce your taxable
income. This was done by donating or selling assets (which otherwise would
have generated taxable income in your hands) to a trust whose beneficiaries
were your children. Your children would normally pay tax at a reduced rate
because their income was not high enough to attract the maximum tax rate of
42 percent.
Such an arrangement also ensures that when parents die, their estates are
reduced by the amount of assets transferred to the trust, which reduces
estate duty.
Trusts have also been very attractive from a tax point of view because
beneficiaries could use the losses allocated to them from those trusts to
reduce income received from employment and other sources.
But that has now been stopped - since last year if your share from a trust
for the year is a loss, that loss must be retained in the trust and used to
off-set the profit in the trust, if there is any, in the following tax year.
Last week I wrote about you being taxed on taxable income received by your
minor children as a result of you donating income-generating assets to
them.
The same applies if you use a trust and your minor children are
beneficiaries. In other words, a trust, although recognised as a separate
person, just like a company or close corporation, is really an extension of
yourself in that you can`t use it to avoid tax.
A trust will not be of significant help to you, from a tax perspective, if
you donate assets to it for the benefit of your minor children.
A trust will also not help you if you have control (or future control) of
the assets you have donated to it even if the beneficiaries are adults.
In other words, a trust is mainly useful from a tax perspective if you sell
the assets (at market value) to it rather than donate them - whether or not
the beneficiaries are minor children.
If you donate assets, say cash, to a trust, the income to the trust will be
in the form of interest income. If you donate shares, the income will be
dividends. When the trust distributes that income to beneficiaries, the
income will still retain its initial form. That is, the income will be
received by the beneficiaries just as if there was no trust. If the income
is interest due to the trust, it will be interest to the beneficiaries -
and taxable. If it is dividends due to the trust, it will still be
dividends when paid to the beneficiaries, and dividends received from
domestic institutions are currently tax free.
If adult beneficiaries have a vested right to claim income from the trust,
in other words if the trust deed lays down that income is due to them, the
income will be taxed in their hands. But if the adult beneficiaries have no
vested right to claim income - if for instance whether or not they get
income is at the discretion of the trustees, then the income will
effectively be taxed within the trust using higher rates of tax.
Experts will normally assist in drafting a trust deed for you. Remember
that tax is one of the factors to consider in setting up a trust and not
necessarily the only factor. You should also think other factors such as
convenience, cost and future family plans.