Louise Biti shows why Special Disability Trusts are now worth a second look for families with disabled children
When the concept of a Special Disability Trust (SDT) was established it seemed like a good idea; but the restrictions placed into legislation made them impractical and tax-ineffective. As a result, they have not been popular.
Recent changes to both social security and tax legislation make these trusts worth reviewing as a strategy for clients. An SDT can help with estate planning for families with a disabled child as well as provide Centrelink advantages.
What is an SDT for?
An SDT can be used by family members to set aside money for the future care and accommodation needs of a person with a disability. The money is placed into a trust for the benefit of the disabled person as the sole primary beneficiary.
This is attractive from an estate planning viewpoint as it allows parents to set aside money for a disabled child, avoiding the potential for any estate conflicts over this money. In NSW and WA, issues may arise from notional estate provisions if the trust has been set up within the three years prior to the donor’s death.
The original rules were very restrictive and the trust money could only be used to pay for care and accommodation costs relating to the person’s disability. This meant that the trust could only pay for costs that were necessarily higher due to the beneficiary’s disability. For example, trust money could not be used to pay for general property maintenance or renovations unless they were required as a direct result of the beneficiary’s disability and were to rectify problems that may put the beneficiary’s safety at risk.
New rules that commence on January 1, 2011 will expand the range of purposes that the trust money can be used to pay for. This makes an SDT more effective in providing for a disabled person’s needs.
What are the qualifying rules?
If an SDT is being considered, the first criterion to check is whether the intended beneficiary is eligible for an SDT.
The person for whom the trust is set up must meet the definition of severe disability. In essence, this means the person must have a physical, intellectual or psychiatric impairment assessed at 20 points or more (criteria to qualify for Disability Support Pension). There are also restrictions on work ability, living arrangements and means testing. The full definition can be checked at www.centrelink.gov.au. Some relief is provided from January 1, 2011 as the trust beneficiary will be able to work up to seven hours a week in the open labour market.
A solicitor should be engaged to draw up the trust deed, as the trust must meet the following requirements of an SDT:
- be “protective” in nature;
- have only one principal beneficiary (the person with the disability);
- have a trust deed that contains the clauses as set out in the model trust deed;
- have an independent trustee, or alternatively have more than one trustee;
- comply with the investment restrictions and have a documented investment strategy;
- provide annual financial statements; and
- conduct independent audits when required.
What are the Centrelink concessions?
Immediate family members* can transfer up to $500,000 (combined) into the trust without the normal Centrelink gifting rules applying. This can enable clients to set aside money to help a disabled family member without a negative impact on their own Centrelink entitlements.
*An immediate family member includes natural, step or adoptive parents, legal guardians, grandparents and siblings.
An assets test exemption of up to $563,250 (indexed each year) is available for the trust beneficiary. In addition, neither the trust income nor distributions from the SDT are assessable under the income test. This means the assets of the trust will not jeopardise the person’s eligibility for Centrelink benefits.
How is the trust income taxed ?
In the past, the trust came under normal taxation rules for trusts, with a person presently entitled to income. Any income spent on the trust beneficiary was taxed at the beneficiary’s marginal tax rate. However, income retained in the trust was taxed at the penalty rate of 45 per cent.
Due to the purpose restrictions on expenditure, this may easily result in income being retained in the trust.
Changes in tax legislation will make the trusts more tax-effective. These changes are:
- Unspent income from an SDT will be taxed at the beneficiary’s personal income tax rate, instead of the highest marginal tax rate.
- The capital gains tax main residence exemption has been extended to include a residence that is owned by an SDT and used by the beneficiary as their main residence.
Traps in gifting strategies
If more than one family member is making gifts into the SDT it is important to consider the gifting order. The $500,000 exemption only applies once and will apply to gifts in date order, even if the person making the gift does not qualify for a Centrelink/DVA payment. Centrelink/ DVA recipients should make their gifts first.
The disabled person and/or spouse cannot transfer assets to an SDT to avoid gifting rules on assets in their own name unless the assets come from either a direct inheritance or superannuation death benefit received within the previous three years.
The Government is continuing to look for affordable ways to support people with disabilities, and these recent changes will help to make SDTs more attractive. Families who are concerned about the estate planning aspects of looking after a disabled family member should consider whether an SDT is appropriate. And along the way, it may also provide some Centrelink advantages. Not many strategies exist anymore to reduce assessable assets, but this is one that does work in special circumstances.
Louise Biti is a director of Strategy Steps, an independent company providing strategy support to financial planners. For more information visit www.strategysteps.com.au
