Family trusts (commonly structured as discretionary trusts) remain one of the most widely used estate and tax planning tools in Australia. Their primary benefit is flexibility: trustees can decide each year how to distribute trust income among beneficiaries.
However, the Australian tax system imposes specific rules to ensure that this flexibility is not misused. Importantly, a trust is not a separate taxable entity in the same way a company is. Instead, the trust’s net income is attributed to beneficiaries, who are then assessed at their personal tax rates. If distributions are not made validly, the trustee may face tax at the top marginal rate of 47%.
This article provides a legal overview of how family trust distributions are taxed in Australia, including trustee obligations, the treatment of minors and non-residents, the distinction between income and capital distributions, and common compliance risks related to rules on distributions.
How the Family Trust Distribution Tax Regime Works?
In Australia, a family trust is not taxed as a separate entity. Instead, the trust’s net income must be distributed to beneficiaries who are “presently entitled” by 30 June each year. That distribution is then taxed at the beneficiary’s individual marginal tax rate.
If the trustee fails to make a valid distribution resolution on time, the law requires that the trustee is assessed on the entire undistributed amount at the top marginal tax rate of 47%. This high rate is designed to prevent trusts from retaining income to achieve tax advantages.
The regime therefore operates on two simple rules:
- Beneficiaries pay tax at their own rates if they are validly made presently entitled.
- If no valid entitlement exists, the trustee pays tax at 47%.
Family Trust Elections and the 47% FTDT
To access certain tax concessions, many trusts make a Family Trust Election (FTE). Once an election is lodged, the trust is bound to distribute only within the nominated “family group.”
Any distribution outside this group attracts the Family Trust Distribution Tax (FTDT) at 47%. For example, a $20,000 distribution to an ineligible cousin would immediately trigger a $9,400 FTDT liability.
Trustees must therefore exercise caution when defining and adhering to the family group.
Taxation of Different Beneficiaries
The tax consequences of distributions depend on the profile of the beneficiary:
- Adult residents: Taxed at their marginal tax rate. Trustees often distribute to family members with lower taxable income to minimise overall liability.
- Minors (under 18): Subject to Division 6AA penalty rates. The first $416 is tax-free, but above that, income is taxed at punitive rates of up to 66% or 45%. This prevents trusts from being used to stream large amounts to children.
- Non-residents: Distributions are generally taxed at a withholding rate of 32.5%–45%, depending on the amount.
- Companies: Corporate beneficiaries are taxed at the applicable corporate tax rate (25–30%), though unpaid present entitlements may attract further Division 7A consequences.
These different scenarios highlight the importance of careful planning, as trustees must weigh fairness with concerns around tax implications for each class of beneficiary.
Income, Capital, and In-Kind Distributions
Not all distributions are treated the same way under Australian tax law.
- Income distributions: Constitute assessable income for beneficiaries.
- Capital distributions: Generally not taxed, though anti-avoidance provisions may apply if they represent disguised income.
- In-kind asset transfers: Treated as if the trust disposed of the asset at market value. This may trigger CGT within the trust, and state-based duties (such as stamp duty on property) must also be considered.
Capital Gains Tax Treatment
Family trusts are subject to Capital Gains Tax (CGT) on the disposal of assets. Where an asset has been held for more than 12 months, the trust may apply the 50% CGT discount before distributing the net gain. The discounted gain is then allocated to beneficiaries, who pay tax according to their marginal rates.
Failure to allocate gains to beneficiaries by 30 June results in the trustee being assessed at 47% on the undistributed amount.
Trustee Obligations Under Australian Law
Trustees have strict legal obligations, including:
- Distribution resolutions: Must be executed in writing before 30 June each year.
- Accurate record keeping: Minutes, elections, and tax returns must be properly maintained.
- Withholding obligations: Where beneficiaries are non-residents or minors, trustees must comply with withholding and reporting rules.
- Compliance with FTE rules: Distributions outside the nominated family group trigger FTDT.
Trustees may be personally liable for penalties if they breach their statutory duties.
Common Pitfalls and Legal Risks
Some frequent errors include:
- Failure to distribute by 30 June → trustee taxed at 47%.
- Distributing to ineligible beneficiaries (under FTE) → FTDT at 47%.
- Allocating to minors without considering Division 6AA → high penalty tax rates.
- Improper in-kind transfers → CGT and state duty liabilities.
- Poor documentation → distributions declared invalid by the ATO.
Best Practice Strategies
To manage family trust distributions effectively and minimise legal or tax risks, trustees should follow recognised best practices. These strategies include:
- Undertake distribution planning early in the financial year.
- Use adult beneficiaries with low taxable income where possible.
- Carefully structure corporate beneficiaries to avoid Division 7A issues.
- Document all trustee resolutions thoroughly.
- Obtain professional tax and legal advice before making in-kind or capital distributions.
FAQs
Family trust taxation rules often raise practical questions for trustees and beneficiaries. Below are answers to some of the most common issues under Australian law.
What tax rates apply to family trust distributions?
Beneficiaries are taxed at their marginal rate. Undistributed income is taxed to the trustee at 47%.
How are minors taxed on trust distributions?
Children under 18 are taxed under Division 6AA at punitive rates. Only $416 per year can be received tax-free.
How is CGT applied within a trust?
Gains are calculated at the trust level. If distributed, beneficiaries are taxed on their share. The 50% CGT discount applies where the asset was held for at least 12 months.
What are the consequences of distributing to outsiders?
If the trust has made a Family Trust Election, any distribution outside the family group triggers FTDT at 47%.
Can trusts distribute assets instead of cash?
Yes, but this is treated as a deemed sale at market value, potentially triggering CGT and stamp duty obligations.
Conclusion
Family trusts provide substantial flexibility and can be powerful tools for wealth management, but they also carry significant compliance burdens. Trustees must be mindful of deadlines, election rules, and tax traps such as FTDT and Division 6AA.
If you are a trustee, beneficiary, or adviser navigating family trust distributions and wondering how to find a good family lawyer, Legal Finda can connect you with trusted professionals who specialise in trust and estate law. Our network of Australian estate and tax lawyers can provide tailored advice to help you manage risk, comply with the law, and structure distributions in the most tax-effective way.
