Discretionary trusts — variations and issues
Discretionary trusts are an extremely popular structuring and investment vehicle in Australia. In FY2016, there were around 850,000 trusts in Australia with assets of more than $3 trillion with one report predicting there could be more than a million trusts by 2022.
In most Australian jurisdictions a discretionary trust can last up to 80 years (and in South Australia they can last for an indefinite period). There are many legal areas that impact on trusts and with ongoing developments in the law a deed for a trust established even 20 years ago may now be considerably out of date and no longer be fit for purpose.
It is important for trustees and advisers to be aware of what the options are for amending a trust deed and what dangers they should be aware of.
Common variation 1 — income and trustee powers
Due to various landmark cases on taxation of trusts and changes to applicable legislation, many trust deeds will not contain the relevant powers to carry out commonly expected tasks such as income streaming strategies. More generally, the trustee investment powers in an older trust deed are likely to be much less expansive and may not suit modern investment or asset holding needs.
A common variation would be to update the trustee’s powers regarding the determination and streaming of ‘income’ (including capital gains and franked dividends) and other trustee investment powers. Without appropriate modern powers, in addition to acting in breach of trust, a trustee may not be optimising tax efficiency and could be giving rise to significant taxes and penalties for the trustee and beneficiaries.
Common variation 2 — succession/appointor provisions
As those who initially established a trust age and grow older it is common to consider how the control of the trust will be passed on to their children or others upon succession events such as loss of capacity or death. Ultimate control is often held by the persons who are the ‘Appointors’ (or similarly named role, eg, principal, founder, guardian) as this role typically provides the power to appoint and remove trustees.
Older deeds may not provide a clear way for this appointor role to be passed on to another person. It is also common for older deeds to simply not allow for any change of appointor with the role ending after the loss of capacity or death of the current appointors as was the case in Re Owies Family Trust  VSC 716 (see related articles below).
A common variation would be to update the appointor powers and provisions to ensure a new appointor can be appointed now or will succeed to that role upon the current appointor’s loss of capacity or death.
Note that some older deeds typical deeds before the 1990s may have both an appointor and guardian role that need to be considered. Under this type of deed, the appointor generally had higher level powers such as the power to hire and fire the trustee and the guardian’s consent was required to exercise a range of specified powers such as the distribution of distributable income each financial year.
Thus, if the guardian’s consent was not obtained before 30 June in a financial year the trust’s net income would be taxable to the trustee at 47% as any distribution resolution would be ineffective without the guardian’s consent.
Recall the popular saying, make sure you read the trust deed, read the deed, etc, as you may find some issues. Some older deeds (typically deeds prior to the early 1980s) also exclude ‘notional settlors’ being anyone who may have previously gifted any asset or money to the trust who may no longer qualify as a beneficiary.
Common variation 3 — excluding foreign persons
Broadly, foreign purchaser duty surcharge of 7% to 8% applies on top of the normal duty impost (typically between 5% to 6%) where a discretionary trust acquires relevant real estate (usually residential) and the trust is deemed to be a ‘foreign trust’ in the relevant jurisdiction.
In most jurisdictions, a discretionary trust that has a ‘foreign person’ as a beneficiary that can receive income/assets subject to an exercise of discretion by the trustee will be a ‘foreign trust’ and be subject to the surcharge duty. We are aware of an increasing number of professional liability claims relating to foreign purchaser duty being incurred in property transactions so extreme care should be taken regarding any advice on this issue. In addition to the duty surcharge, foreign person land tax surcharges also exist in many Australian jurisdictions.
A common variation to a trust deed, often occurring prior to a property transaction, would be to exclude any ‘foreign person’ from being able to benefit under the trust. Some jurisdictions may also require that such foreign persons cannot be in a trustee/appointor role or otherwise control the trust.
Note that the specific legislative definitions of ‘foreign person’ including a ‘foreign natural person’, ‘foreign trust’ and ‘foreign corporation’ or similar definitions markedly differ from one state or territory to another.
Some jurisdictions also have a ‘change of foreigner status’ or ‘change of intention’ regime which can impose additional duty years after the initial imposition of duty and some jurisdictions empower their revenue authority to determine that a trust is a foreign trust due to practical influence or control that a foreign person has despite not otherwise meeting the legislative definition.
Furthermore, the practices and policies of the relevant state/territory revenue offices can have a significant impact on the way the law is interpreted and applied by those offices and their policies may not coincide with a generally accepted legal interpretation.
Given that a trust may be established for a long time period of 80 or more years it is likely that the relevant laws and revenue office policies will change and this may result in additional taxes being imposed. Accordingly, the drafting of foreign trust exclusions must be carefully worded for each jurisdiction and monitored on an ongoing basis. Moreover, a deed of variation excluding certain beneficiaries by itself can give rise to a duty liability if a resettlement is deemed to arise in certain jurisdictions.
Advisers who are not qualified lawyers that use document template services where they are preparing discretionary trusts or documents to exclude foreign beneficiaries need to be extremely careful as they could be in breach of state and territory legislation precluding non-qualified persons providing legal services, be without any professional indemnity insurance and could be faced with considerable damages for any document that is not fit for purpose.
Is your variation power adequate?
Before undertaking any variation of a trust deed the applicable variation power must be carefully reviewed to ensure it allows for the variation to be made. Many older deeds (and even some new ones) simply do not have sufficient power to carry out the types of amendments that may be desired.
Without an expansive variation power other actions may be needed, such as seeking a declaration from the supreme court to amend the deed in the desired way.
There are numerous court decisions where variation powers have been contested that reveal the complexities and subtleties when seeking to vary a trust deed including Jenkins v Ellett  QSC 154, Mercanti v Mercanti  WASC 297 and Re Owies Family Trust  VSC 716.
Naturally, any variation to a trust deed carries a risk of resettlement which could give rise to duty being imposed on all dutiable property of the trust in the relevant state or territory, as well other tax implications such as income tax and capital gains events occurring.
While court cases and tax offices rulings may provide a degree of comfort in some instances, any variation should consider this aspect, particularly where any beneficial interests are likely to change as a result of the variation. Accordingly, any variation should be carried out carefully with consideration given to the powers contained in the trust deed and the approach of any relevant state/territory and federal tax office.
Discretionary trust deeds drafted many years ago (and even more recent deeds from numerous non-qualified suppliers) may be long overdue for amendment to ensure they meet the current requirements for the trust, particularly in the areas of tax efficiency, current investment trends (including crypto currency and exchange traded funds, etc), succession planning and excluding foreign persons to minimise duty and land tax in the relevant states and territories.
The complexity of varying a trust deed should not be taken lightly. Many issues may arise when attempting to vary a trust, particularly where older deeds have limited variation powers.
Tony Zhang is a journalist at Accountants Daily, which is the leading source of news, strategy and educational content for professionals working in the accounting sector.
Since joining the Momentum Media team in 2020, Tony has written for a range of its publications including Lawyers Weekly, Adviser Innovation, ifa and SMSF Adviser. He has been full-time on Accountants Daily since September 2021.