Your family discretionary trust may be liable for NSW ‘’surcharge land tax’’ in the current land tax year if it owns “residential land” in NSW and a “foreign person” is a potential beneficiary of the trust.
Many readers will be aware that the NSW State Government introduced “surcharge purchaser duty” in June 2016 and that it applies where a “foreign person” purchases “residential property” in NSW.
However the NSW State Government also introduced “surcharge land tax” which is a tax on the value of the residential property payable annually by a “foreign person” who owns residential property in NSW. It is imposed by the Land Tax Act 1956 (NSW) and it is currently 2% – up from 0.75% which applied to the previous land tax year.
“Foreign person” is defined in the Foreign Acquisitions and Takeovers Act 1975 (Cth) (“the Act”). The definition does not include anyone who is an Australian citizen, even if they hold dual citizenship, providing they are “ordinarily resident in Australia” for at least 200 days in the preceding 12 month period and there is no legal impediment to them continuing to stay here – for example, they are not subject to time restrictions imposed by business visas or work visas.
The bad news is that “foreign person” is widely defined.
If a shareholder is not ordinarily resident in Australia but holds a “substantial interest” in an Australian company, then that shareholder is a “foreign person”. A “substantial interest” is defined in section 4 of the Act to mean any person who together with any one or more of their “associates”, holds at least 20% of the shares of the company. For the purpose of the NSW surcharge land tax, if a shareholder is a “foreign person”, then the company is also a “foreign person”.
“Foreign person” also includes the trustee of a trust if a beneficiary of that trust is not ordinarily resident in Australia but holds a “substantial interest” in the trust.
For trusts, a “substantial interest” means any person who together with any one or more of their “associates”, holds a beneficial interest in at least 20% of the property or income of the trust. This is easy to calculate for fixed trusts. What about discretionary trusts?
For a discretionary trust, each beneficiary to whom the trustee has discretion to distribute income or property, is taken to have a 100% interest in the income or property of the trust. It follows that any discretionary beneficiary who is not “ordinarily resident in Australia” has a “substantial interest” in the discretionary trust. Therefore, the trustee of any such discretionary trust is likely to be deemed a “foreign person” for the purposes of the Act.
So what and who cares
If your discretionary trust owns residential land in NSW and has a beneficiary who is not ordinarily resident in Australia, then the trustee could be a “foreign person” and liable for the NSW surcharge land tax.
Unfortunately, having a broad range of beneficiaries or a large number of beneficiaries does not change the outcome.
What if a beneficiary of your family discretionary trust (say your son or daughter) marries and moves overseas to live or work? The NSW surcharge land tax could apply.
Another example is where you, an Australian citizen, own 50% of the shares in a company which is a beneficiary of your family discretionary trust. The other 50% shareholder lives in Los Angeles. As the other shareholder owns a “substantial interest” in the company, the company is a “foreign person”. A “foreign person” who is a beneficiary of a discretionary trust will be deemed to hold 100% of the income and property of the discretionary trust, and therefore it will be deemed to hold a “substantial interest” in the discretionary trust and therefore, the trustee of the discretionary trust will be deemed to be a “foreign person” as well. The NSW surcharge land tax could apply.
Where to from here?
Holding a residential investment property in a family discretionary trust has various advantages including tax advantages and asset protection. They are also widely used by primary producers.
These advantages support the use of family discretionary trusts moving forward and they continue to be part of the financial armoury of anyone mindful of these issues. Accordingly, we recommend in light of the recent significant increase in the surcharge land tax, that trust deeds be amended to exclude “foreign persons” as beneficiaries.
There is still time to make the change. Land Tax in NSW is calculated on land holdings as at midnight on 31 December in each year so issues such as “ordinarily resident in Australia” and “foreign person” are determined by reference to each calendar year not each financial year.