Legal Tip 139: Hybrid Trusts and Asset Protection

Discussion in 'Legal Issues' started by Terry_w, 18th Jun, 2016.

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  1. Terry_w

    Terry_w Structuring Lawyer and Finance Broker - all states Business Member

    18th Jun, 2015
    Hybrid Trusts and Asset Protection

    With trusts there are 2 levels of asset protection to consider:

    1. Protection if the trustee is sued

    2. Protection if one or more beneficiaries are sued

    The trustee can be sued as owner of the property. This may relate to a negligence or a contractual dispute. Having a $2 limited liability company as trustee will likely prevent the beneficiaries from being sued in most cases.

    Where a beneficiary is sued there are 2 aspects to consider:

    a) Unit holders, and

    b) Discretionary objects

    A hybrid trust is a trust which has both discretionary aspects and fixed aspects. There are many ways a hybrid can be set up but one version is a unit trust in which the trustee can redeem units and when this happens it will convert into a discretionary trust. Another version is where capital can only be distributed to unit holders with the income being distributed to any beneficiary at the trustee’s discretion.

    A unit is ‘property’ that can fall into the hands of the trustee in bankruptcy if the unit holder becomes bankrupt. If this happens the creditors will get into the shoes of the unit holders and they will be entitled to all the income and capital that the original unit holder would have been entitled to. They would also have the powers of the unit holders – which will depend on the terms of the trust deed and/or trust law.

    Depending on the trust set up, the trustee in bankruptcy could possibly do the following:

    - cause the trustee to sell trust assets,

    - take control of the trustee position by using their powers to appoint a new trustee,

    - receive income,

    - receive capital

    - wind up the trust

    but whether they can do any of this will depend on how the trust is set up.

    Where the trust deed purports to cancel units on the bankruptcy of a unit holder this term would be void because of s 302B of the Bankruptcy Act 1966. Similar if the clause would allow the trustee to divert income and/or capital to others other than the unit holder. See BANKRUPTCY ACT 1966 - SECT 302B Certain provisions in trust deeds void

    Discretionary beneficiaries of a trust generally have no rights other than for the trustee to properly administer the trust. If a discretionary beneficiary were to become bankrupt the trustee would simply no distribute any income or capital to this person until they are released from bankruptcy.