As referenced in one of our earlier insights, the trustee of a discretionary trust decides which beneficiaries will receive income and/or capital and how much each beneficiary is entitled to receive.
When assessing your borrowing power, depending on the “origin” of the trust distribution and your connection to the trust deed, some lenders may discount the trust distribution OR discount it all together if the “longevity” of the trust distribution comes to question.
Beneficiaries of a trust are usually considered to be a spouse or child over 18 because those are the only parties that have a direct benefit from the trust.
When assessing income trust distributions, lenders may ask for:
- A copy of the trust deed: To identify your connection to the trust.
- Two years of tax returns: To identify the consistency of the income received from the trust.
- Two years of company tax returns: To identify the source and the longevity risk of the trust income distributions. Note: In the event you receive trust distributions from a third party (a business venture or investment) and hold a minority share, the release of company tax returns (source of trust income distributions) can be challenged/contained.
If you’re a spouse and receive a trust distribution, most lenders will use 100% of the distribution in their income assessment.
When it comes to children over 18 relying on trust distribution income, lenders are generally conservative, considering them as a secondary source of income.
What if you’re not a member of the family?
Depending on the circumstances, lenders may accept trust distributions received from a third party as part of your assessable income.
However, it’s important to note that most banks are reluctant to accept third-party distributions because they are not considered “safe” streams of income. If something goes wrong with the company (source of income distribution), lenders assume by default that they will simply stop paying the beneficiary. Accordingly, the question arises as to how the distribution of trust income paid to a third party directly benefits the family members named in the trust deed.
Despite that, a lender can accept the income earned from a joint venture or formal agreement with an unrelated party, if the joint venture or formal agreement is established through a trust.
Some examples of joint ventures or formal agreements include acquisition of investment properties or capital investments (i.e., buying a portion of a business). The income earned from these investments would not be deemed from a third party because you have a direct interest over the assets in question (source of income).
In most cases, where “direct interest, consistency & longevity” can be determined and addressed, most lenders can accept 100% of the income. Conversely, if you require funds to complete the purchase that include income from the sale of these investments, the lender will not accept the trust income since these assets will no longer be owned by you post settlement.
To increase your borrowing capacity, can lenders “add back” distributions paid back to your assessable income?
YES, but not all lenders are the same and/or share the obvious sentiment, i.e., that distribution of income is at the discretion of the trustee.
Add back consideration is relatively straightforward for spouses, but not always for children (who are 18 or older), the applicant’s parents, and third parties. Particularly when these beneficiaries have already received consistent payments for at least two to three years.
Additionally, Mortgage Insurance Providers do not view “reliance on trust distributions” favourable, which can (subject to the lender) undermine a home loan application if LMI is required.
Because The Better Broker recognizes that it is not a real expense and has been done for tax purposes, we have identified and worked closely with lenders who can “add” back the distribution into your assessable income. Lenders we work with most often require either a letter from your accountant or a Statutory Declaration from the beneficiary attesting to the beneficiaries’ financial independence.
To find out more, please contact us to discuss how we can help you achieve the desired outcome.
Eddie Leon @ 0499 600 789 or via email eddie@thebetterbroker.com.au