Beyond the numbers with Grant Thornton: Listen now
This is in the face of one of the key advantages of a discretionary trust - flexibility. On the other hand, the primary focus of foreign surcharges is to impose an additional tax on non-Australian citizens which effectively limits the extent that discretionary trusts can have link to foreign persons (or otherwise face a surcharge).
This is becoming more and more relevant for proper establishment and administration given that surcharges (if they apply), generally more than double the duty or land tax otherwise payable.
The concept of a “foreign person” or “absentee” differs in each Australian state and territory. It also doesn’t help that some have different concepts depending on whether the surcharge is in relation to duty or land tax. Those differences then flow through to different treatment of certain entities such as discretionary and some testamentary trusts.
In the last few months we have seen New South Wales, and now Victoria, and soon to be Tasmania, insist that discretionary trust deeds include exclusionary language such that a trustee is not permitted to make certain distributions to a foreign person. As a consequence, we have seen many instances where trust deeds are being amended or established with surcharges in mind.
However, there is a concern that such changes are being made without appreciating the full impact of what they mean for the administration of the trust, and the interpretive burden it places on trustees.
We have also seen trust deeds attempting to “cover the field” to include exclusionary language with the intention to cover off any potential surcharge implications in each relevant jurisdiction. While that seems logical at first blush, it can create undue complexity for a trustee.
Before looking at what might be the most appropriate approach from an establishment or administrative perspective, the following table highlights some of the major (but not all) differences in determining whether a discretionary or testamentary trust could be subject to surcharge. Note that the table only deals with individual beneficiaries.
It is even more complex when determining the outcome for beneficiaries who are companies or trustees, as tracing through ownership layers is then required.
| Criteria | QLD | Absentee (land tax)[1] | QLD | Foreign person (land tax and duty) | NSW | (land tax and duty) | VIC | Foreign purchaser (duty) | VIC | Absentee (land tax) | ACT | (land tax) | SA | (duty) | WA | Duty | TAS | (duty) | TAS | (land tax)[2] | |
|---|---|---|---|---|---|---|---|---|---|---|---|
| Type of land | All | All for land tax, residential for duty | Residential | Residential | All | Residential | Residential | Residential | Residential & primary production | Residential & primary production | |
| Clawback of duty if intend to change to residential | N/A | No | No | Yes | N/A | N/A | No | No | Yes | N/A | |
| Clawback of duty if trust becomes foreign | N/A | Yes | No | No | N/A | N/A | Yes | No | Yes | N/A | |
| Person who can make the trust foreign/absentee | Individual | Taker(s) in default with 50% or more interest | Any named or potential beneficiary | Trustee[3] or any named or potential capital benficiary | Any named beneficiary[4] | Any named capital beneficiary | Trustee, appointor, named beneficiary or taker in default | Trustee[5] or taker(s) in default with 50% or more interest | Named or potential capital | TBD | |
| Excluded beneficiary clause required to be irrevocable | N/A | N/A | Not until Bill commences [7] in current form | Not currently required on website | N/A | N/A | N/A | N/A | N/A | TBD | |
| Residency requirement not to be foreign[8] | Ordinarily resides in Australia /or | No | 200 days | No | Ordinarily resides in Australia /or | No | No | No | No | TBD | |
| Need to be in Australia on taxing date[9] | Yes /and | Yes | No | N/A | Yes /and | N/A | N/A | N/A | N/A | TBD | |
| Residency requirement | More than 6 months | N/A | N/A | N/A | More than 6 months | N/A | N/A | N/A | N/A | TBD |
The first illuminating aspect from the table is just how different it all is. No one jurisdiction is the same as the other. Further, some jurisdictions have different rules for duty and land tax surcharges. Thereby, attempting to create a trust deed as a “one size fits all” is a feat in itself.
While an exclusionary clause is likely to be required in New South Wales, Victoria and Tasmania, it may cast the net too wide for other jurisdictions and unnecessarily fetter the trustee’s discretion. For those jurisdictions, it is likely to be more appropriate to simply monitor the relevant person’s immigration status – see below.
Regarding distributions to an entity which is not a natural person, the trustee is required to determine the foreign person status of the entity by tracing up the ownership chain, which again, differs among the jurisdictions. This is a significant issue and means that it may be necessary to review not just the trust that owns property but also related trusts. If their deeds do not have exclusion clauses, then the property owning trust may still have to deal with surcharges.
Regardless of the path chosen, the trustee actually has to turn their mind to these issues, being either:
For those beneficiaries who rely on permanent residency or a New Zealand citizen with the appropriate visa or actual residency (only relevant in New South Wales), close monitoring of their status is warranted.
On the other hand, if a wide exclusionary clause is included in a trust deed, and the beneficiary loses their appropriate immigration status (or doesn’t have it in the first place), the person will not be a beneficiary and the trustee will not have a discretion to make a distribution to that person.
For those trusts which do not have exclusionary clauses, the added need to monitor the immigration status of the relevant person would be to manage any “clawback risk”. Each of Queensland, South Australia and Tasmania have provisions which require a surcharge to be later assessed if the person becomes foreign.
For example, if a trust purchased residential land in Queensland while the taker in default is a permanent resident, the trust would not be subject to surcharge on acquisition. It would however be subject to clawback if the taker in default ceases to be a permanent resident within 3 years. A surcharge can also arise even if the trust does not hold the land in question at the time of change in foreign person status or the land has ceased to be residential.
To give another example in the context of a trust having acquired residential land in Queensland, a taker in default who is a New Zealand citizen may not be able to leave Australia for 3 years. Otherwise, they would lose their special category Visa, thereby causing the trust to become foreign and trigger the clawback.
With the current focus, it is easy to draw the conclusion that trust deeds need to specifically deal with potential surcharges in every jurisdiction. The trust deed does need to properly exclude potential beneficiaries where the “foreign person” test extends to them. However, the only jurisdictions which extend the foreign person test in that way are New South Wales, Victoria and Tasmania. In those cases, the most common class of beneficiary which causes the concern is the charitable class, as it can permit (or at least not restrict) a distribution to a foreign charity.
The other jurisdictions only look to named beneficiaries, takers in default and/or the trustee. Those can mostly be managed at the time of establishing the trust and ongoing monitoring of immigration status of those persons as relevant.
In addition, for New South Wales, if the State Revenue Legislation Further Amendment Bill 2019 (NSW) passes in its current form, the exclusionary clause will soon need to be irrevocable. It is worth noting that means that the trust will forever be restricted from making such distributions, regardless of whether it holds land in New South Wales at that time.
Such irrevocability would only then need to concern New South Wales. Otherwise, making such exclusionary clauses irrevocable would seem to materially reduce the flexibility inherent in a discretionary trust without a need to do so from a surcharge perspective.
While residency of a person can play a role, the primary focus of the surcharges is immigration status, with people generally split into one of four categories:
We quite often get a concern raised about offspring moving and living overseas.
Firstly, an Australian citizen is not a “foreign person” in any jurisdiction, regardless of residency. Therefore, for Australian family trusts, the exposure does not change unless a relevant person relinquishes Australian citizenship (eg as part of obtaining citizenship of another country).
Secondly, other than New South Wales, residency is not relevant for permanent residents.
Thirdly, other than New South Wales, New Zealand citizens just need to ensure that they have a special category visa on the taxing date (which practically requires them to be in Australia on the taxing date).
For everyone else, the surcharges apply and residency will not prevent a person from being a foreign person other than for Victorian land tax surcharge.
Other than for New South Wales, New Zealand citizens need to be in Australia on the “taxing date” to have the appropriate visa. Also, a person who is not an Australian citizen or permanent resident who cannot otherwise satisfy the Commissioner that they are ordinarily resident in Australia, need to be in Australia to prevent surcharge on land tax applying in Victoria, as well as satisfy a residency test.
The common nexus to all the surcharges is land held in that jurisdiction. Other than Victoria and Queensland in relation to land tax, the land is usually required to be residential for a surcharge to potentially apply, but of course noting that the definition of “residential” is also different in every jurisdiction.
The complexity for any given trust can be narrowed on the basis of the intent for which the trust is to be used. For example, if the trust will only be used to acquire residential land in Queensland, only the Queensland rules are relevant, and the inflexible language required by New South Wales can be avoided.
Regard must also be had to a potential “clawback” of surcharge if the land later becomes residential (Vic & Tas) or primary production (Tas) (or there is a change of intention for it to become so) which is relevant in relation to duty surcharges.
The foreign person status of the trust at the time of change of intention is not relevant. That is, if the trust is foreign on the taxing date, it cannot be cured by a change in status before a change in intention. This can be a common issue for family members who have applied for permanent residency before the taxing date, but only obtain that status afterwards.
In Tasmania, the trust can never be a foreign person within the 3 year clawback period in that State.
The question of whether a trustee can make a distribution to a particular charity can actually be quite difficult for the trustee to resolve.
For those jurisdictions which look to potential beneficiaries (New South Wales, Victoria and Tasmania), for which the trust deed has an exclusionary clause, it could be difficult, if not impossible, for a trustee to determine whether a charity is a “foreign person”, particularly if the charity is in the form a trust.
We explore the complexities of making distributions to charities here.
Which path is best will be different for each trust. Due to the natural tension between fettering the trustee’s discretion and ongoing monitoring of the trust’s foreign person status, this will not always be easy (or cheap).
That is, if a taxpayer (or should I say potential taxpayer) wishes to manage these issues in the context of their intended use of the trust, it would be prudent to seek specialist advice when amending or establishing a discretionary or testamentary trust.
Such an investment in costs at the outset could well pay for itself in easing the administrative burden of the trustee while still providing as much flexibility for a discretion to be exercised as is allowed under the relevant jurisdiction(s) surcharge rules.
Navigating the myriad complexities of setting up or managing a trust can be difficult. We are well placed to guide taxpayers through the best ways to achieve their (your) goals through the use of trusts and ensure the balance is as desirable as possible.
[1] Does not apply to trustees, but is included to demonstrate the different residency rules in Qld.
[2] Yet to commence.
[3] The Commissioner can also determine a person has a significant interest if they have sufficient capacity to determine or influence the outcome of decisions about the administration and conduct of the trust even if the practice or behaviour involves a breach of trust.
[4] An “absentee corporation” is separately included in the definition of absentee. Despite that, we understand that the State Revenue Office does not separately test whether a trustee corporation as an absentee.
[5] Includes a person in a position to influence, either directly or indirectly, the vesting of capital or income of the trust.
[6] Note that all trusts are taken to be foreign unless the Commissioner is satisfied otherwise, unless and until the Duties Amendment Bill 2019 (Tas) is passed in its current form, in which case taxpayers will have 6 months to change the trust deed (if it is a foreign trust at the time) to limit capital distributions to foreign person(s) to less than 50% of the trust capital.
[7] State Revenue Legislation Further Amendment Bill 2019 (NSW).
[8] Residency test does not apply to Australian citizens (all jurisdictions), permanent residents (other than NSW) or NZ citizens with a special category Visa (other than Qld absentee and NSW). Residency also does not prevent a non-permanent resident from being foreign (other than Qld absentee, Vic absentee and NSW).
[9] Practical requirement for all NZ citizens with a special category Visa (other than NSW).
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