Trusts and 39% tax rate

From 1 April 2024, the new tax rate for trusts will increase to 39% to align with the top personal tax rate.

When the top personal tax rate increased to 39%, the amount of income going through trusts increased by 50% so this move is seen as being fairer.

The 39% tax rate has had many Trustees questioning the future for their Trust. Therefore, we have outlined points below to consider when reviewing the future of your Trust.

Benefits of having a Trust:

1.     Asset Protection:

Trusts provide a protection of assets from risk such as creditors, litigation, or family disputes. Placing assets in a trust protects them as it creates a legal separation between the individual and the assets. It can also be effective in managing inter-generational wealth or protecting assets for certain individuals or groups of individuals. However, it is not the only entity available to provide asset protection.

2.     Deceased estate administration:

A trust can account for specific instructions of the distribution of assets after your death. It can protect assets from a relationship property claim, which can be beneficial if you’re concerned about your child(ren) losing their inheritance to such a claim. 

3.     Beneficiary Allocations:

While the tax rate has increased, there are still the same options available in terms of distributing income to beneficiaries. If the beneficiaries of your trust pay personal tax at a lower rate, the trust can distribute income to them. This allows the funds to be taxed at the beneficiary’s personal tax rate. While this is an option for the benefit of lowering tax, this does cause other issues in that the beneficiaries are entitled to this money. However, if you are paying costs for the beneficiary, these costs can offset the income allocation to still make it an attractive option. There are also options available with Gifting where beneficiaries wish to gift their balances back to the Trust.

Costs of having a Trust:

1.     Tax Rate:

While the Trusts Tax rate has increased to 39%, this is not a reason to look at a Company structure for a lower tax rate. While Company’s are taxed at 28%, this is not a final tax rate because earnings retained in a Company should regularly be cleared via a Dividend. Dividends could mean you are paying tax at 39% as the Dividend flows through to the Shareholders and are taxed at the Shareholders Tax Rate. For example, if you are the sole shareholder of your company and you already earn $180,000, you will be paying tax at 39% when the Company pays you a dividend. While there is no timeline on when you need to pay a dividend, there is a tax liability that continues to grow until you do declare a dividend.

2.     Succession Planning:

A Trust structure isn’t the easiest vehicle to transfer assets or a business to the next generation or employees. A trust is governed by the Trustees for the benefit of the beneficiaries. If you are considering bringing someone into your business, adding that person as a Trustee brings them in 100%. Under a Company structure, you can transition the next generation or employees into your business by allowing them to purchase shares in your business. The number of shares could be straight 50/50 or you may wish to transition them over several years. There are a number of issues to consider when undertaking share transfers in Company’s but this article is to point out that this option is available.

3.     Asset Protection:

Although traditionally trusts have provided protection of assets there are other ways to protect your assets. A Company structure also provides legal separation between the individual and the assets. The only time a Company’s assets are at risk is if the Directors (often you) have acted negligently. Many high risk businesses that involve high value assets (land, vehicles, plant and equipment) will own the operating assets in a Trust and carry out the business operations in a Company. The Company pays a lease to the Trust for the use of the Trusts assets. Doing so means the Company owns no assets so has nothing at risk.

4.     Administrative costs and additional disclosures:

There are administrative costs of running a trust and you may want to consider whether it’s still worthwhile under the new tax rate and additional reporting/disclosures requirements.

The Trusts Act 2019 was brought in back in 2020 has meant major changes to the way Trusts operate. Trustee’s were provided with mandatory and default duties of which a main duty is that Trustee’s invest prudently. No longer can Trustees invest all the Trusts funds in one asset type, class or industry. On top of this, Trusts are required to keep core documents including the Trust Deed, variations to trust deeds, records of trust property, records of trustee decisions, written contracts, accounting records, memorandum of settlor wishes. This information must be available to every beneficiary unless excluded under Section 53 of the Trusts Act 2019. All Trust’s should have had an initial review in 2020/2021 and continue to have reviews to ensure compliance with this Act.

On top of this, all trusts are now required to submit additional information when filing trust income tax returns. All trusts that have taxable income are required to comply with these new requirements. Currently, trusts that only hold personal property (such as the family home or bach) are exempt from having to make these disclosures, although this may change in future. If your trust is required to make these disclosures, then you’ll need to provide full details of the Settlor Trustee, the nature and amount of any settlement made on the trust, the details of any person who received a distribution during the year and details about that distribution. Additionally, Inland Revenue (IRD) requires the details of any person who can appoint or dismiss a trustee, add or remove a beneficiary, or amend the trust deed, as well as further information of any movements in financial statements. This increased reporting requirement could prove expensive with the information needing to be compiled and then provided to the IRD.

Structuring your affairs in the most tax-friendly way can be tricky, but we’re here to help. We can answer your questions about your trust, advise you on the implications of the new tax rate, and suggest ways to avoid paying unnecessary tax.

Also, if you have a Company that has a Trust as a major Shareholder, you will be effected by the increase in tax rate so get in touch with your Client Advisor or Client Manager to discuss how to best make this change work for you.