Choosing a trust structure is not simply a paperwork decision. It affects who can benefit from business income and capital, how ownership is recorded, how new investors can come in, and how easily the structure may adapt as your circumstances change.
For many Australian business owners, the choice comes down to a discretionary trust or a unit trust. Both can be useful, but they are designed for different situations. The right answer depends on your ownership arrangements, family and commercial objectives, funding plans, risk profile and the terms of the trust deed.
The starting point: flexibility versus fixed ownership
A discretionary trust gives its trustee discretion to decide which eligible beneficiaries receive income or capital, and in what proportions, subject to the trust deed.
A unit trust, by contrast, generally gives investors or beneficiaries interests represented by units. Where those unit holders have fixed entitlements to the trust’s income and capital, their economic interests are usually linked to the number and class of units they hold.
That distinction sounds straightforward, but the trust deed matters enormously. A document labelled “unit trust deed” does not automatically produce the same outcome in every legal or tax context. The rights attached to units, the trustee’s powers, redemption provisions, issue of further units and amendment clauses all need to be considered.
Similarly, a discretionary trust is not a blank cheque. The trustee can only distribute to people or entities within the classes of beneficiaries set out in the deed, and must exercise its powers properly.
The 7 key differences between a discretionary trust and a unit trust
1. Who receives income and capital
The clearest difference is how benefits are allocated.
In a discretionary trust, beneficiaries do not usually have a fixed share of annual income or capital before the trustee exercises its discretion. The trustee may decide, within the deed’s limits, to distribute different amounts to different eligible beneficiaries for a particular year.
For example, a family discretionary trust may allow the trustee to consider the financial needs of adult family members, a family company or another eligible beneficiary. That does not mean distributions can be made casually or retrospectively. The trustee must act within the deed and keep appropriate records of the decision.
In a unit trust, distributions are generally made according to unit holdings or the rights attached to particular unit classes. A person holding 40 per cent of the relevant units will commonly have an entitlement linked to that holding.
This makes unit trusts more predictable for investors. It also means there is usually less scope to alter annual distribution outcomes between unit holders without changing ownership interests or relying on specific rights in the deed.
2. Control of the trust
Control is often more important than the name of the structure.
A discretionary trust is commonly controlled through roles created by the deed, such as the trustee, appointor, principal, guardian or protector. A corporate trustee may be used, with control of that company held by particular directors and shareholders.
The beneficiaries of a discretionary trust may receive distributions, but they do not necessarily control the trust simply because they are beneficiaries. The actual control position depends on the deed and the people who can appoint or remove the trustee, direct key decisions or control the corporate trustee.
In a unit trust, control can be more closely connected to unit ownership. Depending on the deed, unit holders may have voting rights or other rights to influence trustee decisions, remove the trustee or approve major transactions.
However, this is not automatic. Some unit trust deeds give significant powers to the trustee or another nominated party. Before assuming that majority unit ownership equals practical control, read the deed carefully.
3. Flexibility in distributing profits
A discretionary trust is generally more flexible when the business is owned by a family group or a small group with changing financial circumstances.
If the deed permits, the trustee may distribute income and capital among eligible beneficiaries in different proportions from year to year. This can help a family group manage cash flow, support beneficiaries at different life stages or retain profits for legitimate commercial purposes.
That flexibility must be used carefully. A beneficiary’s entitlement is a real legal entitlement, even where cash is not immediately paid. Trust distribution resolutions, accounting entries, unpaid present entitlements and the eventual use of funds need to be handled consistently.
A unit trust generally provides less annual flexibility because income and capital are more closely connected to unit holdings. That can be a strength where unrelated investors want certainty about their respective interests.
The trade-off is that a unit trust may be less adaptable if the owners later want profits to be shared differently without changing the underlying ownership structure.
4. Bringing in investors or changing ownership
Unit trusts are often more suitable where several unrelated parties are investing in a venture and want a clear, measurable ownership interest.
Units can provide a practical way to document each investor’s economic stake. Subject to the deed, units may be issued, transferred, redeemed or bought back. This can make a unit trust useful for property ventures, joint investments and businesses where parties contribute different amounts of capital.
That said, issuing or transferring units should never be treated as a simple administrative step. It may have tax, duty, valuation, financing and legal consequences. The deed may also contain pre-emptive rights, transfer restrictions, approval requirements or different classes of units.
A discretionary trust is less naturally suited to bringing in external investors. It does not ordinarily provide a fixed ownership percentage that can be bought and sold in the same way as units.
It can still be appropriate where participants are closely connected and the purpose is family wealth management or operating a family business. But where commercial partners want certainty over ownership, exit rights and returns, a unit trust is often easier to explain and administer.
5. Tax outcomes and distribution planning
Neither type of trust should be chosen on the assumption that it automatically creates a lower tax bill.
Australian trust taxation depends on the trust’s income, the deed, the beneficiaries’ legal entitlements, the nature of the income and the relevant tax rules. Broadly, where a beneficiary is presently entitled to trust income, that beneficiary may be assessed on their share of the trust’s taxable income under the trust taxation rules.
A discretionary trust can offer more flexibility in deciding which eligible beneficiaries are made presently entitled to income or capital gains in a particular year. This is one reason discretionary trusts are commonly used by family business owners.
However, the ATO closely examines trust arrangements. A distribution should not be treated as a paper exercise where another person is intended to receive the real benefit in a way that gives rise to a tax avoidance concern. The rules dealing with reimbursement agreements can apply where trust income is appointed to one beneficiary but benefits another person under an arrangement with a tax reduction purpose.
A unit trust can also distribute taxable income to its unit holders, but the fixed nature of the interests usually limits the trustee’s ability to redirect income between investors.
Both structures can potentially deal with capital gains and franked distributions under specific tax rules, but only where the deed and the relevant legal requirements support the intended outcome. Capital gains and franked distributions should not be “streamed” by assumption. The trust deed, trustee resolutions and supporting records need to be reviewed before the end of the relevant income year.
6. Losses and future deductions
Trust losses are often misunderstood.
A trust does not simply distribute a tax loss to its beneficiaries for use against their personal income. Losses generally remain within the trust and are subject to special rules before they can be used in later years.
The applicable tests differ depending on whether the trust has fixed or non-fixed entitlements. Broadly, a discretionary trust is a non-fixed trust, while a properly structured unit trust may be a fixed trust if unit holders have vested and indefeasible interests in all of the trust’s income and capital.
For a unit trust, changes in ownership can affect the ability to use carried-forward losses. For a discretionary trust, changes in control, patterns of distributions and income injection concerns may be relevant.
This means a trust with expected start-up losses, changing investors or a future sale plan should be structured with care from the outset. A seemingly minor deed amendment, issue of units or change in control can have larger consequences than expected.
7. Asset protection, succession and administration
Trusts can assist with asset separation, but they are not a guaranteed asset-protection solution.
The trustee holds and manages trust property. If the trust operates a business, the trustee is generally responsible for that operation. A corporate trustee may help separate trustee risks from personal assets, but it does not remove the need for sound contracts, insurance, finance arrangements and proper business conduct.
In a discretionary trust, a beneficiary’s position before a distribution is generally different from owning a fixed share of trust assets. This can be useful in family succession planning, but it also means the deed must clearly deal with trustee replacement, appointor succession, incapacity and death.
In a unit trust, units are assets in their own right. They may be transferred under a will, sold or otherwise dealt with, subject to the deed and any shareholder, unitholder or financing arrangements. This can provide a clearer succession pathway where each investor’s percentage interest needs to pass to a nominated person or estate.
Administration is important in both structures. Trustees need to maintain records, lodge the appropriate tax returns, prepare annual accounts, document distributions and ensure the trust is acting within its deed. A poorly administered trust can create tax issues even where the original structure was suitable.
A practical example: family business or joint venture?
Consider two common scenarios.
A couple operates a growing trade business and wants flexibility to support family members, reinvest profits and plan for future family succession. They are not seeking outside investors and expect their circumstances to change over time. A discretionary trust may be worth considering because it can provide flexibility, provided the deed is properly drafted and annual distributions are carefully managed.
Now consider two unrelated investors buying commercial premises together. Each wants a defined share of the rental income, expenses, sale proceeds and decision-making rights. A unit trust may be more appropriate because units can record each party’s agreed economic interest and provide a clearer framework for an eventual exit.
Neither structure is automatically better. The key is matching the structure to the commercial reality.
Questions to ask before choosing
Before establishing a discretionary trust or unit trust, it is useful to work through questions such as:
– Who will contribute capital, and in what proportions?
– Who should receive income and capital now and in the future?
– Are the owners family members, unrelated investors or both?
– Is flexibility of annual distributions important?
– Do investors need fixed percentages and clear exit rights?
– Will the trust hold a trading business, investments, property or a combination of assets?
– Could the trust make losses in its early years?
– Are there lenders, minority investors or business partners who need specific protections?
– What succession arrangements are required if a controller, trustee, unit holder or beneficiary dies or loses capacity?
– Could the proposed arrangement trigger duty, land tax, payroll tax or other state-based consequences in the relevant jurisdiction?
The final point is especially important for property and business structures. State and territory taxes can vary substantially, so an approach that works in one jurisdiction may not produce the same result in another.
Choosing a structure that still works as the business grows
A discretionary trust and a unit trust can both be valuable tools for Australian business owners. A discretionary trust is often attractive where flexibility, family planning and changing distribution needs are central. A unit trust is often better suited to defined ownership, co-investment arrangements and bringing in investors.
The trust deed is not a standard formality. It is the document that determines the rights, powers and limitations of the structure. It should be considered alongside the business plan, ownership arrangements, funding model and long-term exit strategy.
This article is general information only and is not personal financial or tax advice. Trust structures can have significant tax, legal and commercial consequences, so speak with a registered tax agent or accountant, such as, about your specific circumstances before establishing or changing a trust.