Published: July 26, 2016 – 9:44AM
When the owners of a business want the flexibility of distributing income to family members, to reduce the impact of income tax on net business income, a discretionary family trust with a company acting as trustee provides flexibility from a tax planning point of view and legal protection.
There have been examples in the past of people that have used family trusts to reduce the tax payable on what is really employment income. Since the introduction of the personal services income rules the ability to unfairly save tax on employment income has been reduced.
Where a business is operated through a family trust and family members work in the business there are steps that can be taken, to ensure that in the event of an ATO audit, no penalties will be imposed.
Q. I run a tourist attraction that is operated through a family trust and need someone to help me. I would like to know what the legalities of having a nephew working in my business for a share of the profit via a distribution from the Trust? How is this best structured to protect both me and him in event of accident, and what important things should the distribution agreement cover?
A. One of the areas that the ATO focuses on when conducting auditing a business is the people that work within it, and the level of salaries and wages they receive. Where the ATO can show that the profit of the businesses being inflated, by underpaying salaries, business owners can find themselves not only facing income tax penalties but also SGC and WorkCover penalties.
Your ability to distribute profits from your family trust to your nephew will not depend on a distribution agreement, but instead on the wording of your family trust deed. To distribute to your nephew he would either need to be named as a beneficiary of the trust in its deed, or be a relative of a named beneficiary.
Typically a family trust deed will state who the primary beneficiaries are, then allow profit to be distributed to secondary beneficiaries who are a relative of a primary beneficiary, and tertiary beneficiaries who are a relative of a secondary beneficiary. If you are not sure whether you trust deed will allow you to distribute to your nephew you should seek professional advice.
I do not believe you would receive the amount of protection you require by distributing profits to your nephew. As he will be working in your business you should pay him a commercial wage. As part of this process you would need to also pay WorkCover insurance, which provides the protection in the event of him having an accident, and also make compulsory super contributions.
If you did not have him as an employee and distributed profits you would be at risk if he had an accident, and also if the ATO audited your business he would classed as an employee and then pay SGC and WorkCover penalties.
Questions on small business income tax and other issues can be emailed to firstname.lastname@example.org. Max Newnham is a partner in the accounting firm TaxBiz Australia and founder of http://www.smsfsurvivalcentre.com.au.