To Gift or Not to Gift?

Gift duty was abolished from 1 October 2011 and while the legislative change itself is simple, it has surprisingly complex consequences. The abolition of gift duty has made it possible for individuals to gift assets directly to a trust and it is likely this practice will supplant the former method of selling property to a trust with a gift back.

However, whether or not this is the best option for an individual will be decided on a balance of various factors.

The first decision is whether to gift or not to gift. In deciding whether or not debts owing to individuals from their trusts should be forgiven in part or entirely there are two competing interests:

• The need or desirability of retaining the debt owing by the trust to the individual, which is best served by not forgiving the debt; and
• Limiting exposure to creditor, relationship property, and succession claims against individuals, which is best served by forgiving the debt owed by the trust.
   

It should not be assumed that it is always best to forgive the debt owing. The debt is the primary means by which a settlor can have recourse to the trust without relying on the goodwill or agreement of the trustees. When considering whether to gift it will be useful to consider why the trust was settled. For example, if the purpose was to ensure asset protection for future generations, then the fact a large gift may render residential care subsidiary unavailable may be an acceptable price to pay for asset protection.

Key Situations Where One May Consider NOT Forgiving The Debt: 

• Where the individual is a settlor but not a beneficiary, therefore the only way to access assets in the trust is through repayments of the debt. Once the debt is forgiven the settlor may lose this control of the trust.

• Where one partner in a relationship has a sum of money which is separate property (potentially an inheritance) and wishes to preserve it as such but may wish the couple to have the benefit of the money through their trust purchasing a house. The moneyed partner should advance the funds to the trust by way of loan and that should not be forgiven.

• Where parents have loaned a sum of money to their child's trust, possibly to assist in the purchase of a first home. Here forgiveness of the debt would not be advised.

The above scenarios comprise a non-exhaustive list of the situations in which a forgiveness of debt would not be advised. Alongside this, some clients may feel uncomfortable ceding control of their assets through a forgiveness of debt.

Key Situations Where One May Consider FORGIVING The Debt:

• A debt back remains an asset in the name of the settlor therefore the debt may be forgiven to protect those assets from potential claims against the settlor by creditors.

• An individual may wish to forgive the debt by gifting the assets directly to the trust so this will not form part of their relationship property, as relationship property is generally divided equally on the dissolution of a relationship. However, if one party has transferred relationship property to a trust with the intention of defeating the other party's rights to the property, this may be set aside under the Property Relationship Act 1976. Recourse to trust assets may also be available under the Family Proceedings Act 1980 (FPA) and bundle of rights claims.

• In relation to inheritance, an unforgiven debt often forms a substantial part of an estate, unless this is forgiven in a will. The FPA and Law Reform (Testamentary Promises) Act 1949 do not provide the Court with powers in respect of property that does not form part of the estate, such as dispositions made to trusts. By forgiving the debt it will not be available for distribution as part of the estate.

• In relation to bankruptcy situations the unforgiven portion of a debt can be demanded by the Official Assignee ("OA") to satisfy creditor claims against the settlor. Alternatively, without the debt back the OA and creditors will have to rely on claw back remedies under the Insolvency Act 2006 and the Property Law Act 2007. It is important to remember that under the Insolvency Act a gift can be cancelled by the OA if it was made within two years of bankruptcy. A client may wish to request from their accountant a solvency certificate at the time of the one-off forgiveness of debt.
   

In summary the decision whether to gift or not to gift is a balancing exercise depending on one's individual circumstances. The ability to have recourse to trust assets through retaining the debt must be balanced against the increased protection offered by a settlor not being owed a debt back from their trust.

Conclusion

Whether or not an individual decides to gift assets to a trust, and whether a debt owed by a trust is forgiven, will be a balancing exercise and the factors will be different in each scenario. There is no "one size fits all" solution to this question and it will need to be decided on a case by case basis.

Brandon Cullen | Partner | Albany Office
(09) 966 3609 | bcullen@mcveaghfleming.co.nz

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