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Will a family trust protect your personal assets from your business dealings?

It seems like every man (and his dog) in New Zealand has a family trust. Are there genuine reasons that you, as a business owner, should be setting one up too?

What is a family trust?

Family trusts are designed to protect the ownership of your assets and benefit your family beyond your lifetime. When assets are in a family trust you no longer legally own them. For example, your family home may be currently in the names of you and your partner. With a family trust, you would both transfer the ownership of your house into the trust who will then own it instead. So how do you do this?

Simply, a trust is created when one person (the ‘settlor’), gives property to another person (a ‘trustee’), to hold on to and look after for the benefit of someone else (the ‘beneficiary’) in the future. You can set it up so that while you no longer “own” the transferred assets, you can continue to use and enjoy them  – you just need to be careful to make sure that the terms of the trust allow this.

Creating your family trust

The first step is to talk to your lawyer or other trust specialist. – this is not a DIY activity. They will talk to you about your goals and what you want to achieve before preparing the formal paperwork which is required.

The process itself is fairly straightforward. The settlor (that’s you) creates the trust with a written and properly signed trust deed (usually prepared by your lawyer or specialist trust service).  As the settlor it’s you who makes the decisions about what is entered into the trust deed including who the beneficiaries will be and who you want to appoint to look after the trust property. You can even appoint yourself as one of the trustees. The trustees then carry out  your wishes. The beneficiaries are the recipients of the trust, in the manner outlined by you. There are three main types of beneficiaries:

  • Final beneficiaries – they receive whatever is left when the trust is wound up, usually many years later.
  • Discretionary beneficiaries – they may get something from the trust (or may not) at the discretion of the trustees.
  • Primary beneficiaries – the main beneficiaries with priority over others.

The trust deed should include all the rules and guidelines for the management of the trust as per the settlor’s wishes.

So how does the trust get to own assets when it has insufficient money to pay for them? In a word – gifting. Assets can be transferred over by ‘gifting’ things to the trust, which effectively makes them owned by the trust and not the individual. This process needs to be well documented so again, make sure you get professional advice to ensure you get it right.

How are family trusts used to protect assets against business problems?

A family trust can prevent exposing your personal assets to business risk. Having your property and assets owned by the family trust keeps them separate and locked away from creditors if your business fails with debts owing.

It’s all about keeping your business as far removed from your assets as possible. It provides protection for your personal wealth so that business liabilities don’t impact on your home and other forms of personal wealth. It’s protects against debts run up by failed businesses, claims of negligence made against professional advisors, and claims made against company directors under the Companies Act.

But surely, setting up a limited liability company should be enough protection? Not always. Personal guarantees and personal liability that breaks through the ‘corporate veil’ can leave you personally exposed.  For example, if your business takes out a loan and you provide a personal guarantee in support of that loan, you are personally liable for that debt and the bank can take your personal assets to help repay that debt. This is when having a family trust becomes important.

What are the benefits to having a family trust?

The most significant benefit is that your assets are safe. They cannot be touched by anyone wanting to recoup losses from your failed business dealings. Unless the trust is found to be a sham (e.g. it was set up to deliberately hide assets away from creditors), there is no way for anyone to access the assets. This leaves them safe for your beneficiaries, and intact for the next generation.

What are the cons of a family trust?

Family trusts are expensive. You’ll need a lawyer to set one up, and they require regular maintenance such as minutes from meetings, and any changes and resolutions need to be signed (which may mean more lawyers). You might need to appoint an accountant to be a trustee as well—there’s more fees. You can’t DIY this unless you know what you’re doing.

The laws keep changing. Family trusts laws are almost unrecognisable from 15 years ago. Can you devote the time and energy to keeping up with them?

You also must set up a family trust a long time before you need one. If you try to hide assets away when you can see trouble brewing in the future, it’s too late. Courts can see that and decide that the trust is actually sham, and then claw those assets back. Asset gifting must happen a considerable time before it’s needed. Which means the time to act is now – before you need it.

If you transfer your assets to a family trust, this means you have no personal wealth. This may not be a problem for many, but in terms of assets, you personally will own almost nothing. If you act as though you own them, then the trust can be declared a sham.

Business assets complicate things. If your business owns assets, it’s wise to have them in a  another trust separate from your family trust. In a scenario where the family home and the family commercial building are owned by the same trust, it can get complicated. If the business fails, the trust may not be able to offer much protection to the family home, as business assets are part of the trust.

You may also want to be careful about who has the power to appoint or remove trustees.

Seek advice

Family trusts are a great option if you create and maintain them correctly. They are not designed to be used at the last minute to hide money when you start to see creditors on the horizon. While they can be expensive to set up and maintain, the costs of not doing so could be far bigger.

As per any major financial transaction that could have important outcomes, it’s wise to seek professional advice. Get in touch with Sam Kodi today to discuss how you can protect your assets from potential loss.