Does a Trust Protect Your Assets?

Written by Lily Palasia

Asset protection has long been a motivating factor in the establishment of discretionary trusts within Australia. It is often assumed that establishing a trust can protect certain assets from claims by third parties, including spouses upon the breakdown of a marriage or de facto relationship.

Whilst a trust structure can sometimes be used effectively as a shield from bankruptcy, or for tax purposes, in the context of family law, the establishment of a trust may not have the desired effect.

Under the Family Law Act 1975 (Cth), the Federal Circuit and Family Court of Australia possesses broad discretionary powers to alter property interests between parties following the breakdown of a relationship.

The establishment of a trust is usually not an effective means to protect or quarantine assets from a family law claim or dispute that might arise after separation.

Trust structures

A trust is a legal relationship whereby a trustee holds property for the benefit of beneficiaries. The trustee possesses legal ownership of the trust property but must manage the assets in accordance with the terms of the trust deed and other legal obligations.

Commonly in family law matters, there will be a discretionary trust, also commonly referred to as a “family trust”. In a discretionary trust, beneficiaries possess no fixed entitlement to trust assets. Instead, the trustee has discretion to consider and determine how the trust assets are managed, and which beneficiaries receive distributions and in what amount.

Other trust structures include:

1. Fixed trusts;
2. Unit trusts;
3. Hybrid trusts;
4. Testamentary trusts.

The family law approach to trusts

In determining whether there should be a division of assets between separated couples, and if so, how that should happen, identifying and valuing the property of the parties will be undertaken first. The definition of “property” is very broad. It is defined in the Family Law Act 1975 as “property to which those parties are, or that party is, as the case may be, entitled, whether in possession or reversion” and has been held to include:

a. Real estate and other personal property, as well as debts;

b. Property that was owned by a party before the relationship began;

c. Property that was acquired after a relationship ended;

d. Overseas property;

e. Licences such as fishing licences and taxi licences;

f. Inheritances, lottery wins and insurance payouts received by a party;

g. Business interests;

h. Shareholdings of a party (whether or not the company is publicly listed);

i. Trusts.

Some trusts with defined interests, such as unit trusts, are typically less complicated to deal with in the context of identifying property. That is because the number of units held in that trust are a distinct and quantifiable interest. A party’s interest in a discretionary trust, however, is more complex.

When determining whether or not the entire value of a discretionary trust is included as property, the Court will give consideration to a number of matters, including:

a. The extent to which a party has control, power and discretions as to the operation of the trust, for example, whether a party have power of appointment of the trust, and/or whether a party is a trustee (or director of a corporate trustee). Generally speaking, the more control a party has as to the operation of a trust, the more likely it is that the trust will be considered property;
b. How the trust has been operated historically, for example, what distributions have been made to which beneficiaries (particularly to beneficiaries who are not the parties), and whether there is regularity or consistency in terms of those distributions;

c. Whether there are named beneficiaries other than one or both of the parties;

d. The terms of the trust deed;

e. When the trust was established and for what purpose, for example, whether the trust was originally established to facilitate the intergenerational management of a family business or landholding for the benefit of future lineal descendants.

When a party or parties have full control of a discretionary trust, such that they are the appointor and trustee (or director of the corporate trustee), it is often the case that the trust will be considered their “alter ego” with full access to the benefits of the trust, and therefore considered to be “property”, especially if they have exclusively received distributions from the trust.

If it is determined that a party’s interest in a trust is not property, it may still be considered a “financial resource” available to a party, and taken into account when assessing how the rest of the property should be divided.

How trusts are dealt with in family law matters will differ depending on various factors, including those set out above, and it is recommended that you seek legal advice before engaging in your own negotiations. There can also be tax implications when dealing with trust assets – for example, vehicles that need to be transferred from a trust to a party – and so it is recommended that your accountant is also able to advise on taxation issues before any agreement is finalised.

At present, the only way to prevent a partner or spouse from making a claim for a property settlement, and to protect your assets from such a claim, is to enter into a Financial Agreement (sometimes referred to as a pre-nuptial agreement).

For more information on Financial Agreements, please read our blog “Binding Financial Agreements - Myth-busting Edition”by Sarah Quilliam.

If you would like further information about trusts in property settlements, or any family law matter, please contact our office to speak with one of our solicitors.

Important Disclaimer

The above information is general in nature and provided for educational and informational purposes only. It is not legal advice and should not be relied on as such. Every situation is different, and you should seek independent legal advice before making decisions about your own circumstances.