The purpose of these notes is to provide a brief overview of the contents and operation of the deed of settlement which establishes a discretionary trust (deed), plus some of the necessary steps and considerations which arise in the establishment and operation of a discretionary trust (trust).
The comments set out below are of a general nature only and it is emphasised that they are intended to be preliminary to obtaining professional legal advice in conference regarding the contents of your particular deed and the circumstances of its establishment.
For commentary on the nature of discretionary trusts generally and their role as taxation and estate planning vehicles see notes titled “Discretionary trusts- General notes on structure”.
Creation of the trust
The common form of Australian discretionary trust is created by a person making a gift (or “settlement”) of money under a deed.
That person is called “the settlor” and the money gifted is called “the settled sum”.
The settlor is usually a family friend or someone else who will never be a beneficiary under the trust. (Under the deed, the settlor is expressly excluded from ever receiving back the settled sum or from ever being a beneficiary of the trust).
Procedure for establishment
The suggested steps for establishment of a trust set out below should be followed carefully. Failure to do so may cast doubt on the validity of the trust’s establishment or may result in adverse taxation consequences for the trust.
The procedure adopted is for the settlor to make a gift of a sum to the trustee upon the signing of a deed of settlement by both parties.
The amount gifted is usually a nominal sum for the purpose of establishing the fund (trust fund) to which further amounts may subsequently be added by gift or loan, or which may be enhanced as a result of the trustee’s investment or business activities on behalf of the trust fund.
The preferred method is for the settlor to write a cheque payable to the trustee and to note in the cheque butt “settled sum for the X trust”. However it is not fatal if an amount of cash is simply handed over.
The following points regarding establishment should be noted:
- As indicated above, the settlor should not be a beneficiary or potential beneficiary of the trust. Nor should the settlor have any children who may be beneficiaries and receive income from the trust while under the age of 18 years
- For the sake of prudence, it is generally advisable to avoid having as settlor either professional advisers or employees of beneficiaries or, indeed, anyone who may be argued by the Commissioner of Taxation to be paying the settled sum as agent for a beneficiary or whose child may be a beneficiary
- The settled sum should actually be paid to the trustee (usually in the form of a cheque) and should not be reimbursed to the settlor by anyone
- It is recommended that the settled sum be deposited in a bank or building society account separate from any other account opened in the name of the trustee. (A trust may cease to exist if it has no property. Keeping the settled sum as an identifiable fund – particularly in the early establishment period of a trusts – is therefore a prudent step in avoiding potential problems in this regard.)
Once the above procedures have been completed, the settlor effectively drops out of the picture.
A trustee can be either:
- one or more individuals
- one or more companies; or
- combinations of both.