What happens to a family trust in divorce? A simple legal guide

What do you think of when you hear the term ‘family’? What does ‘trust’ mean to you? Individually, the terms are powerful notions that have formed the backbone of countless cartoons and kid’s films.

By Michael Sheahan, Legal Administration Assistant at Roger Fritz LLP, Brisbane.

Together, they describe a legal entity and financial instrument designed to protect and accumulate wealth. ‘Family trusts’ reach their climax with unfortunate irony when considered alongside divorce, separation, and division of assets.

Trusts are complicated financial structures, and jargon like “trustees”, “appointers”, and “beneficiaries” can make it seem overwhelming at first. It can be difficult to know where you stand with your rights regarding family trusts in divorce and property settlement. The following is a simple guide to family trusts and what can happen to a family trust in divorce.

 What is a family trust? 

A family trust can be an excellent tool for protecting and accumulating wealth for family members. They’re more flexible with distributing assets than regular trusts, have fewer reporting obligations, and can reduce capital gains tax.

First things first, what is a trust? A trust is a legal entity, that holds property on behalf of beneficiaries. It’s like a piggy bank, and the trustee is the one with the key. The trustee controls the trust’s assets and oversees distributing the assets and income to the beneficiaries in accordance with the trust deed. The trustee is given the key to the piggy bank by the appointer, who appoints the trustee.

In a discretionary trust, the beneficiaries don’t have a fixed entitlement, (like in a fixed trust), and the trustee dictates how the trust funds assets are to be distributed to beneficiaries. A discretionary trust is considered to be the legal possessor of its own assets- not the trustee, appointor, or beneficiaries.

Often one family member will be both trustee and appointer. When a relationship ends, what happens to the funds in a family trust? 

How are family trusts handled in the event of a divorce? 

Divorce doesn’t impact your family trust per se.  After divorce or separation, former parties to a marriage or de facto relationship divide their assets. This may be dictated by a binding financial agreement signed before , during, or after the relationship (commonly called a “pre-nup”). If there is a legally binding pre-nup, the assets will be divided in accordance with its terms. When there is no binding financial agreement, then the parties can divide the property themselves, or they can engage lawyers and begin the legal pathway for a property settlement in the family court. 

To explain how the court handles Family Trust funds, we first need to briefly explain how the court determines what a just and equitable division of assets is.

The four-step process: What the court considers when dividing a family trust in divorce 

The Family Law Act prescribes a four-step process for settling property disputes.

1. Identify all property

First, they identify all the property of the marriage, including real estate, cars, money, shares, superannuation, inheritances, and debts (including the mortgage).

2. Identify relationship contributions

The second step is to figure out what contributions each party has brought to the relationship. This could be relevant in a short de facto relationship or where one partner has come to the relationship with vastly more money. Contributions are not just financial and include improvements made to the matrimonial home or in raising Financial Institutions. 

3. Account for future factors

The third step is to account for future factors. These would be each party’s capacity to earn in the future. This is relevant where one party has contributed as a homemaker and by raising the Financial Institutions.  This could result in a gap in their resume, making them less employable and reducing their capacity to earn money in the future. In this instance, the homemaking party would likely receive a larger percentage of the property pool and may receive ongoing payments from the former spouse called spousal maintenance. Other future factors include the parties’ age and health, child upkeep, and the length of the relationship.

4. Just and equitable division

The fourth and final step is that the court will decide how the property should be divided, ensuring that it is just and equitable.

Read about the complete divorce process in Australia here.

When are family trusts included or excluded from divorce property settlements? 

There is a popular misconception that the court cannot touch money held in a trust after a divorce. It’s true that assets held in trust are considered as belonging to the trust itself as its own entity, and not to the beneficiaries. If, however, the court deems that you’re in “control” of the trust and its assets, the money or assets will be considered part of the property pool in a property settlement. The court may consider you “in control” of your family trust if you’re the trustee, the appointer, or both. For this reason, people can use trusts as a tool to protect assets from a potential divorce or to gift assets after death to a family member while protecting it from that family member’s partner.

If the money in the trust is considered to be under one of the party’s control or they have an interest as a beneficiary, then it will form part of the property pool and be included in the first/second step of the four-step process. 

If the family trust is considered to be outside of your or your former partner’s control or interest, then it won’t form part of the property pool.  It may still be relevant for the third step of the settlement process, future factors. If you or your former partner are beneficiaries of the trust, then they’ll likely expect to receive payments from this trust at some point in the future, and this will likely be considered in the court’s assessment at stage four.

Unlocking the piggy bank

Depending on the structure of your family trust and the amount of control you or your former partner have over the trust, you may be entitled to some or all of its assets in a property settlement. It’s a complex area of law, but the advice of a legal expert can help give you some clarity and control over your situation and advocate for your rights in separation.

If you’re going through a separation or want to know more about family trusts and divorce, one of our family law experts can answer your questions and guide you through the Australian divorce process. If you would like to know more, please fill out the form below, and our bookings team will put you in touch with one of our family lawyers who can assist you with your matter.

Request a call back from our friendly, supportive team via the form below, or feel free to call us directly.