Legal Tip 269: 4 Reasons not to hold shares in the same Trust as Property

It is generally a good idea not to hold shares and property in the same trust. Here are 4 reasons why:

a) Foreign Persons
These days trusts that hold property will generally exclude ‘foreign persons’ from benefitting from the trust – otherwise there are adverse stamp duty and land tax issues.

It is not necessary to exclude ‘foreign persons’ from a trust that only owns shares as there is no stamp duty or land tax issues to deal with.


b) Family Trust Elections
A discretionary trust with more than $5,000 in dividend income will generally need to make a family trust election and this will limit the range of beneficiaries who can be distributed income and capital to without adverse tax consequences.


c) Losses
A trust that holds property would be more likely to have an income loss, especially in the early years. If a trust does not have a positive income it cannot pass franking credits on with dividend income.


d) Risk
A trust that holds property has more risk from dealing with tenants and others so it is possible it will be involved in litigation at some point. A trust that only owns shares is very unlikely to be at risk as shareholders are generally not liable for the debts of a company they hold shares in.

If a tenant sues for a slip and fall the shares would be at risk if held in the same trust as the property as the tenant could sue the trustee and the trust assets would be at risk.


There are probably other reasons as well. Whenever considering ownership structure seek both legal and tax advice.

 

The foreign persons one can be nasty. And very difficult to foresee too.

eg Trust income may be exempt for a non-resident beneficiary where it comprises interest, dividends and property income etc. And capital gains.

Offsetting property losses v other investment income can produce some very weird tax anomolies. eg $0 trust income but income on the property is distributed (since CGT, interest and Fully Franked amounts etc are exempt) and so foreign tax can apply where there is Nil in Australia. s98(3) issues too. eg trustee is assessed on income that would otherwise be tax free. Then the non-resident must lodge to get the tax back. Clients never understand this circular path to nowhere.

I'm just finalising one now where the tax offset is lost since the beneficiaries are all non-resident. In the prior year they were partially resident and the credits were refunded. Seems nobody mentioned this would occur when the beneficiaries departed. One saving factor is a CGT event to sell down the shares can avoid tax since CGT events on shares are exempt for non-resident beneficiaries.

Tip : There can a be a reason why you DO WANT shares and property in a AU trust where a beneficiary is from NZ. The distribution of a CGT amount (property or shares) may be exempt and not even reported to IRD. Full and final tax of $0 could arise. I always ensure such trusts get legal advice on streaming powers in their deed.

 

e) estate planning
might be another reason

 

On top of these borrowing capacity also needs to be considered.

f) Borrowing capacity or serviceability

 

There also may be reasons TO consider the same trust purely from a tax perspective

• Accumulated CGT gains and losses that can offset eg shares losses could be offset by gain and net losses carried forward. This may later benefit a property sale
• Negative gearing. eg a property loss could be offset by investmnet income BUT...watch out for lost franking credits if the net income is not $1 that is taxable overall
• Costs both upfront and ongoing of two trusts.
• Could be possible to recyle the one trustee company and limit some extra cost. There is also a lender issue - You can hide one of the trusts from a bank !! (see my comment below)
• Simplicity (but simplicity is often a poor idea from a legal and tax perspective !!)

Two other possible issues :

I think there could be some borrowing issues too. Many trusts will borrow 80% from bank and also a onlend from associates. A lender may not always see that as favourable and may assess the onlend in servicing with the 80%. Having that in another trust may hide the issue. Broker guidance is wise. Terry you can speak to this issue - Lenders policies vary

Once trust cloning allowed trusts to be spilt apart without CGT consequences. These days its not allowed. In some cases a disc trust owning property can be altered to become a fixed trust. As the legal owner is unchanged duty is generally not imapcted (QLD it is). Then if loans and mortgage have been discharged the trust can wait three years. After this, a smsf can "acquire" indirect onwership of property INCL residential property through issue of new trust units in the ungeared trust. When the trust has shares etc it is NOT allowed. (SIS Reg 13.22 C & D). However in the time prior to the three years the shares etc could be disposed of but at what CGT trigger ?? A two trust strategy from the start may avoid that.

 

All good points. I advised a client this morning to use an existing trust with shares to also hold property.