Why the Rich Hold their Businesses in Trusts - Easy to Follow Practical Examples
- Sapphire Bay Partners
- Sep 5, 2023
- 9 min read
The Rich and Wealthy commonly hold their businesses in trusts to protect their privacy, defend their assets against creditors and to offer them the most flexibility to legally minimise taxes. It also adds in succession planning. Read on for practical examples which explain, in simple terms, how and why this works.
So you have decided to set set up your business in a company structure. Congratulations!
The next decision: should I hold the shares in the company directly in my own name or hold the business in a trust?
Very often, the rich when presented with this option will hold their assets in a trust.
In today's feature article we will explain in simple terms why the rich often to hold their businesses in trust structures.
So let's dive in.
But, before we do, a critical disclaimer: this article is general in nature and is intended to educate our clients and readers on why many sophisticated business owners elect to hold their incorporated business entities in a trust. This is not to say that this is always the choice made and when it comes to your own personal affairs, any decision you make should be based on your specific circumstances. Consult your accountant before making any final decisions as these structures can be more costly to set up and even more costly to unwind. So, while we at the Sapphire Bay team do not like disclaimers and would rather give you practical advice, in this case we feel it is warranted.
Ok, now let's dive in.
At a glance
We commonly see wealthy and sophisticated individuals and families hold their incorporated business interests in family trusts. They do this due for the following reasons:
Protect their privacy
Protect their assets from creditors and discourage would-be litigants
Tax minimisation
Succession planning
Today's article goes into more detail to explain how trust structures achieve these advantages. Enjoy!
Article
Meet Jenny - a sophisticated business owner
Meet Jenny, a wealthy and savvy business person, who has made a significant amount of wealth after founding and selling several businesses.
She is launching her newest venture, "Influencer Advisors" which provides strategic advice to local and international social influencers looking to grow and monetise their following. She expects this business will be highly successful from the outset, with many high-profile clients eager to engage the company as soon as she launches.
She contacts her accountant and instructs her to incorporate "Influencer Advisors Pty Ltd" ("Influencer Advisors"), an Australian incorporated company. As part of the detailed briefing session, her accountant assesses her specific circumstances and goals, and suggests that she considers owning the shares in a trust. She explains the structure and the advantages and disadvantages of the structure.
The Proposed Structure
The proposed (simplified) structure is shown below.
The above structure shows:
A Corporate Trustee, Trustee Entity Pty Ltd - need to be the "beneficial" owner of the trust assets
A Family Trust, Jenny's Family Trust - the entity which provides all the advantages
Influencer Advisors Pty Ltd - the operating entity deriving all the revenue
A fundamental point to remember with this structure is that the business entity (and any asset frankly), when held within a trust, is not considered owned by any person or entity. This can be very challenging for clients to understand and there are many articles which explain the legal basis for this, so we wont cover this here.
However, for the purposes of this article, all you need to understand is that assets held by a trust have no legal owner. As a result, creditors can't go after them in the event you are sued as you don't legally own the assets.
Jenny's accountant explains some of the main advantages of holding the shares in a trust as follows.
Privacy protection
Holding your company in a trust means it is not immediately clear who the beneficiaries are. While an ASIC extract search details the Director(s), Company Secretary(s) and Shareholders, a company owned in this structure makes this a little more opaque.
Depending on legal requirements, as Influencer Advisors is held in a trust and technically does not belong to any person or entity, it is likely to not list the shareholder entity (in this case, Trustee Entity Pty Ltd). This means that it will not be immediately obvious the identity of the corporate trustee and therefore who "benefits" from the trust assets.
As an extra level of privacy, she could even appoint a board of directors in her place so her name does not appear at all on the extract as a Company Officer.
Obviously, these arrangements are complicated, but the above shows a simplified example of how an individual and their loved ones can "financially benefit" from a business in this structure, without it being immediately obvious who they are.
Finally, while this structure does obscure control and financial benefits, there are ways for a sophisticated investigator to uncover ultimate beneficiaries. However, this can sometimes be extremely difficult and costly to uncover, if set up correctly.
Protection of assets
The next benefit of the structure is that it protects Jenny in the event she is sued by a litigant or creditor.
The underlying premise again goes back to the fundamental point that assets held in a trust are not legally owned by any person or entity.
In this case, if Jenny was sued, for any reason, Influencer Advisors would not be an asset which could be targeted. While Jenny has the power to control Influencer Advisor, she does not own shares of the entity.
As a result, Influencer Advisors would be out of reach for any litigant. The Influencer Advisor business could be worth tens or even hundreds of millions of dollars in value, yet it would be untouchable to a litigant or creditor, even if that litigant / creditor is a bank or even the ATO!
(One of the only exceptions to this rule however, is a former spouse, as Australian Family Law allows courts to see through this protection in the event of determining a financial separation).
This in turn has two advantages. The first is that if a judgment is ever delivered by a court against her, Influencer Advisors is safe from seizure, securing this ongoing financial benefit for Jenny and her loved ones for years to come.
And, secondly, if Jenny has all her affairs structured correctly, like she has with Influencer Advisors, it is highly unlikely she would even be pursued by a private debtor or creditor, as she, legally, has no assets to target. This can be a very effective deterrent!
Tax Minimisation - the ability to distribute (or "stream") money
One of the most popular advantages of holding business interests in a trust is the ability to stream earnings to different beneficiaries.
Assume that after one year the business elects (more accurately, is directed by Jenny) to make a sizable dividend distribution of $500,000.
If Jenny owned the shares in her name, the entire $500,000 would be taxable to her personally. Assuming these dividends were unfranked and the only income she received, she would be liable for over $205,000 (based on the FY24 tax liabilities - see https://paycalculator.com.au/ to run your own numbers. It's a great website!)
However, with a trust, Jenny would have flexibility to distribute this $500,000 across other beneficiary individuals (if she had enough) and companies.
Assume Jenny had:
a spouse
an elderly relative and
two adult children still studying
all of whom have no income, she could distribute the $500,000 across her and these four other individuals at $100,000 each. This would result in a tax liability of approximately $25,000 in each, once you factor in the tax free-threshold and graduated tax rates.
She is nearly $80,000 better off!!
[$205,000 in tax payable when owning shares directly vs $ 125,000 in tax liability when distributing across 5 people
$205,000 - $125,000 = $80,000]
And it's all legal!
Quick point: we often hear people push back on this point by saying that most families would not have four other adults, all earning no income. This is true and is a curse of the rich - too much money to distribute and not enough beneficiaries to distribute to.
In this case, we also explore bucket companies to take some of the surplus wealth, as this also reduces overall tax liabilities.
Nonetheless, the point here is to demonstrate how distribution of these funds over multiple individuals and entities legally reduces the overall tax liability compared to owning shares in an individual's name directly. In the latter, there is zero flexibility to distribute except to the shareholders in the exact percentages of ownership.
Family succession
Finally, trust structures make it simple to pass down assets to future generations, without triggering undesirable taxation events. Rather, control of the corporate trustee is handed over to whoever the individual feels is most appropriate to assume control.
While this decision requires consideration, from a taxation and legacy perspective, the trust structure is one of the most efficient and flexible structures available for this purpose.
The disadvantages of the structure
Having explained the advantages of holding an incorporated business in a trust versus holding it directly in a business owner's personal name, you are probably wondering what are the disadvantages. Surely it can't all be upside?
The main disadvantages are as follows:
Disadvantage 1 - It's complex
Let's not mince words: it's a complex way to hold businesses. Everyone understands holding a business in their individual name. It is clear who owns and controls the business.
But with a trust structure, clients commonly don't understand, or are unable to quickly grasp, that assets owned by a trust are not owned by any individual or entity. This is especially if they have limited business or legal expertise. This is not a criticism of these people. It is understandable that many people cannot wrap their heads around the fact that assets exist in these trusts and no one owns them. How can that be?
And yet, due to the nature of beneficial ownership of a trust, this is the case.
Many also don't understand why it is worth completing all the additional requirements of the structure, including incorporating a trustee entity, and drafting and stamping a trust deed, all to own a simple company.
We understand this complaint. It seems like a lot of work compared to just owning the entity directly.
However, when the revenue, profit and distribution figures begin to become sizeable, the benefits increase exponentially.
As any very wealthy person will tell you, as you become wealthier, strangers, friends and family begin asking more questions. Investigators begin looking into your affairs, newspapers want to inquire about your assets and where it all came from, and potential litigants are on the hunt.
Does this mean you should avoid becoming wealthy? Absolutely not. And there are many, many organisations and individuals better placed to explain all the good that being wealthy can allow for you personally and for the causes you care about. We wont cover these here, but the wealthy accept that with this wealth, comes some of the challenges noted above.
Disadvantage 2 - It costs more to set up and maintain
The other major disadvantage is that it costs more to establish and maintain.
Rather than incorporating one company, you now need a minimum of two entities, the business itself and the corporate trustee (we generally don't recommend individual trustees, as they expose the individual to unlimited liability and the advantages noted above are mitigated).
You also need to draft and stamp the trust and the corresponding deed. You need to get this right, so unless you really know what you are doing with the trust deed, you will need a lawyer or accountant to assist (some clients are capable of incorporating a company directly with ASIC, however, unless you are a trained lawyer or accountant yourself, we do not recommend establishing a trust on your own).
You then need to obtain all the administrative requirements (ABNs, tax file numbers, registrations etc) for each entity and establishing bank accounts. This is a lot of extra work on top of just incorporating and holding the operating company.
Then, each year, you will have ongoing fees. These include ASIC fees, accounting fees and additional bank and operational fees.
However, again when the size of the business and/or assets "owned" or "controlled" by the wealthy individual(s) really begin to grow, these amounts become nominal. And, in any event, these wealthy individuals have accountants and advisors managing their affairs for them, so it is just one component of this cost.
The Closing Word - Why the Rich Hold their Businesses in Trusts
Holding your business company in trust has a lot of advantages, including:
Protect privacy
Protect assets from creditors and litigants
Tax minimisation
Succession flexibility
While there are the advantages of complexity, and higher establishment and ongoing fees, as the size of the company grows, so too do the advantages noted above.
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Sapphire Bay Partners is always delighted to help!
We love working with dynamic, proactive clients and helping their businesses grow.
If you would like assistance, feel free to reach out to us.
Tel: + 61 3 9563 4666
Email: letstalk@sapphirebay.com.au
Important Information
This is general information only so it doesn’t take into account your objectives, financial situation or needs. Sapphire Bay Partners is not giving you advice or recommendations (including tax advice), and there may be other ways to manage finances, planning and decisions for your business.
Carefully consider what’s right for you, and ask your lawyer, accountant or financial planner if you need help. Alternatively, feel free to reach out to Sapphire Bay Partners for assistance or referrals to an appropriate professional. We’re always happy to help!
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