As a shareholder in a company, you may have considered transferring the shares you own in the company into a discretionary trust in New Zealand. This article will outline the legal implications of transferring shares into a discretionary trust, some of the reasons for doing so, and whether you should hold shares in a company in your personal name or through a discretionary trust.
Holding Shares Personally vs Holding Shares Through a Discretionary Trust
Holding shares personally is the most straightforward and simple way of owning shares in a company. In this case, the shares are held in your personal name and you have all of the rights and benefits of these shares, such as:
- voting rights; or
- rights to dividends when the company distributes profits to its shareholders.
You are both the legal and beneficial holder of those shares. Holding shares in your personal name also means that you, individually, can vote on shareholder decisions without requiring additional approvals.
Owning shares in a company via a discretionary trust is another option. A discretionary trust separates the legal and beneficial ownership of the shares. Accordingly, the trustees will own the legal title to the shares (in their capacity as trustees of the trust), while the beneficiaries of the trust will have the beneficial ownership of the shares. In other words, while the trustees are recorded as the legal owners of the shares, beneficiaries receive the benefits from those shares. Likewise, the trustees manage those shares and make decisions in respect of those shares for the benefit of the beneficiaries.
Commonly, one person will wish to set up a trust and hold their shares through a trust known as the “settlor.” There will generally also be an independent trustee company that is the trustee and legal owner of the shares. Beneficiaries of the trust will then be that individual and, if applicable, their partner and any of their children. Typically, the trustees may only exercise their voting powers in respect of shareholder resolutions with the unanimous approval of all trustees.
Advantages of Holding Shares Through a Discretionary Trust
A key reason for holding shares via a discretionary trust is creditor protection. If the settlor is also a director of the company, they may wish to protect their shareholding against any potential personal liability for breaching their directors duties. By holding their shares via a discretionary trust, they can protect their shareholding from potential creditor claims, given those shares are no longer held personally. Rather, trustees hold them on behalf of the discretionary trust.
Another reason why you may choose to hold shares via a discretionary trust is for tax reasons. When holding shares by a discretionary trust, you can distribute dividends payable by the company to beneficiaries with a lower tax rate than the settlor. This is dependent, of course, on the settlor’s personal tax rate.
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Should I Hold My Shares Through a Discretionary Trust?
Holding shares via a discretionary trust may be the preferred way of owning shares for some shareholders subject to potential business risk. For example, liability for breach of director duties or obligations under the Health and Safety at Work Act or Resource Management Act.
While there are advantages to holding shares via a discretionary trust, this is not always necessary. The shareholder director may already have adequate directors insurance covering them for certain business risks. This enables them to avoid situations where they cannot pay off their creditors even though they are personally liable.
Additionally, owning shares through a discretionary trust comes with additional set up and ongoing maintenance costs (and time). You will need to establish the discretionary trust and transfer the shares from the shareholder personally into the ownership of the discretionary trust. Trusts also require their own set of accounts. Finally, trustees have ongoing disclosure obligations to their beneficiaries that they must comply with, together with other trustee obligations.
Key Takeaways
Holding shares through a discretionary trust enables shareholders to have creditor protection for their shares, particularly if they take on a large amount of business risk and are also the company director. However, holding shares through a trust is not necessary or compulsory for all shareholders. It will likely require additional administrative paperwork to establish and maintain the trust. The decision to transfer shares into a trust will likely depend on how much risk a shareholder sees themselves taking on and whether they want to make use of any of the tax benefits.
For more information about discretionary trusts and other asset protection matters, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0800 005 570 or visit our membership page.
Frequently Asked Questions
A discretionary trust is a legal structure set up by a person wanting to protect certain assets or minimise their tax. It can be a great way to protect certain personal assets as trust property is protected against potential creditor claims.
To set up a discretionary trust, you need to pick your trustee, select your beneficiaries, and draft your trust deed. Then, sign and give the initial trust deeds to your trustee and apply for your NZBN and IRD number. Finally, open a bank account for the trust funds.
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