Subject to certain exceptions, trust income that is paid to a child beneficiary is taxed as trustee income at the trustee rate of 33%. This is the case regardless of the beneficiary’s marginal rate.
This rule, which is called the minor beneficiary rule is an anti-avoidance measure introduced to prevent income streaming where income is attributed to minors (children) with a more favourable tax rates, rather than to (usually) parents.
There are exceptions to the minor beneficiary rule and it is also possible to avoid the application of the minor beneficiary rule by not making settlements onto trusts to which the rule applies. However, the applications of exemptions are fact specific and require a trustee to have comprehensive knowledge of the nature of settlements onto a trust.
For the purposes of the minor beneficiary rule a minor is a child who is aNew Zealand resident and who is less than 16 years old on the trust’s balance date. Presuming a 31 March balance date if a child is 15 on the balance date, but turns 16 the following month – the minor beneficiary rule will apply in respect of any distribution of income derived before the balance date.
The minor beneficiary rule only applies to distributions of income. Distributions of capital are not subject to the rule.
Small distribution exemption
An exemption applies so that where $1,000 or less is distributed to a minor in any one income year, the minor beneficiary rule will not apply. This is the case even if multiple distributions are made to different children in the same year. This is because this exemption applies on a per child basis.
The minor beneficiary rule does not apply to un-related trusts
The minor beneficiary rule does not apply to trusts where all the settlements onto the trust were made by a person who is not the child’s guardian, related to the child or associated with the child (in this context associated means associated for tax purposes and relative is similarly defined). This exception reflects the policy basis of the minor beneficiary rule that the rule’s primary application is to prevent income splitting within family groups.
The minor beneficiary rule does not apply to some trusts where settlements are made by a court order or a protection order
The minor beneficiary rule does not apply if all settlements onto the trust are made in accordance with a court order that requires a settlor (who is a relative, guardian or as associate) to pay damages or compensation to a child. However, this exception will not apply to court orders made in accordance with the Property (Relationships) Act 1976, which provide for the settlement of property upon a trust whether on the breakdown of a family or otherwise.
The minor beneficiary rule does not apply if all settlements onto the trust were made by a settlor (who is a relative, guardian or an associate) in relation to a protection order and the child is a protected person for the purposes of the Domestic Violence Act 1995).
The minor beneficiary rule does not apply to most will trusts
Provided that a child or one of the child’s siblings is alive within a year of the will-maker’s death, the minor beneficiary rule does not apply to beneficiary income derived by a minor under a will.
However, this exception to the rule does not apply if a will is varied by a deed of family arrangement that has not been ordered by the Court.
Other exceptions to the minor beneficiary rule
The minor beneficiary rule does not apply to beneficiary income derived:
The minor beneficiary rule does not apply if the only settlements that do not come under exclusion to the rule comprise:
• property that does not exceed $5,000 in total value at the end of the trust’s income year
• financial assistance for less than market value that has a total value not exceeding $1,000
The trustee has the liability for any provisional tax in respect of minor beneficiary income
A trustee is liable for any provisional tax payable in respect of income paid to a minor beneficiary. Use of money interest will apply if provisional tax is underpaid by the trustee.
Income Tax Act 2007, s HC 35, HC 36
Vicki Ammundsen, Taxation of Trusts, ed 2, CCH New Zealand Limited (2011) chapter 10