A family trust is a great structure. It provides tax flexibility whilst giving you asset separation in two directions. But what does asset separation in two directions mean? And why might we suggest it to you as a recommendation?
First of all, why do you want asset separation? If there are multiple assets, you want to make sure that if someone makes a claim against the owner of a particular asset that your other assets can be quarantined from that claim. This isolation will mean that they can’t gain access to the assets that are yours and separate from the claim.
If you own a business and have a successful financial claim made against your business where the claim is for an amount that is more than the assets of the business, you will first need to use the business to cover the claim, and then find something additional to supplement the shortfall. In this case, if you also own your own home, and its worth is enough to cover that shortfall, it may be used to meet the claim by combining the business assets’ worth and the family home’s value. You could lose your family home!
However, if we structure your business in a particular way then the person making that claim will only have access to the assets in the business and you will be able to keep your family home.
This is what is called asset separation. Generally, it’s a good thing to employ, but it does have one flaw – it usually only goes one way.
If someone claims on your business, they won’t get the house but if they successfully make a financial claim against you, they will successfully get all of the assets that you own, including those of your business. This is a risk that you must be willing to take if you own a business.
When you operate a business through a family trust instead of owning that business, you will merely “control” it, and have but a “mere expectancy” of being considered in the distribution of any profits or capital from that business.
The good part here is that although you only have a mere expectancy to be considered, we would set it up so it is YOU that “considers” who gets the money. This means that if someone makes a claim against you then they can’t get access to assets in the family trust. What this does is give you two-way asset protection.
There is a bit of an issue with family trusts though – although you will see the debts of the trust as debts of the trust at law, they are in actual fact the debts of the trustee. If you are the trustee, all of the debts of the trust are your personal debts. You can use the trust assets to pay down those debts, but if the trust assets are insufficient to pay the debts, it will be up to you to pay off the rest.
When you’re an individual trustee of a trust, you lose the perk of asset separation, which is why a company may be used as a trustee, as the company does nothing other than act as the trustee of the trust. If there are insufficient funds in the trust to cover the debts of the trust, then those debts fall on the trustee and the creditors have no access to your personal assets because you have no individual debts owing.
Want to know more about asset separation? Interested in trusts? We’re here to help.