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A trust may not protect your property

By Richard Lang, Partner and Amanda Bradley, Solicitor

First published in The Press Saturday 11 June 2011

How often do you hear people say “you should have a trust to protect your property”, and what does it actually mean for you?

Transferring property into trust can be an effective way to protect property from creditors, relationship property claims, and for estate planning, because property transferred by someone to a trust is no longer the personal property of that individual. But when should you set up a trust and is it enough to protect your assets?

Meet Daniel.  Daniel was single for a few years. He saved hard and managed to buy a house.  After making in-roads into his mortgage, Daniel met Lisa and after a while she moved in with him.

Daniel had heard from several people that before Lisa moved in he should do something to protect his assets, but he did not know too much about it.

After living with Lisa for two years, he decided he should try to protect his house and look into this “trust” thing. Daniel knew that after living together in a de facto relationship for three years, the family home can become relationship property. He decided to set up a trust and transfer his house into the trust before he and Lisa lived together for three years. 

But, is it enough to protect him?  The short answer is no. 

After four years together, the relationship ended and Lisa moved out of the house. While Daniel was upset over the breakup he was even more upset when he received a letter from Lisa’s lawyer claiming for compensation for half of the equity in his house which was transferred into trust during their relationship.  Daniel was devastated to find out that Lisa does have a legitimate claim against his property. 

Under the Property (Relationships) Act, property transferred to a trust during the relationship can be taken into account if the transfer has the effect of defeating the sharing of relationship property, even if it was not intended to have that effect.

Once Lisa moved into the property, the property became the family home.  Being in a de facto relationship for three years crystallised Lisa’s entitlements under the Property (Relationships) Act.  After three years Lisa was entitled to half of the equity in the family home. Daniel’s act of transferring the property into a trust had the effect of defeating Lisa’s entitlement to relationship property.

If Daniel intended to defeat Lisa’s claim for relationship property, the court can order that the property be transferred back out of the trust. If there is no intention but it has had the effect of defeating Lisa’s claim, a court can order compensation to Lisa from Daniel’s share of relationship property or from Daniel’s separate property or from income generated from the trust (if any).

For example, where a trust owes a debt back to a person, that debt may be classified as relationship property.  Usually, people transfer property into trusts by selling that property to the trust at market value, and then leaving the purchase price of the property owing by the trust.  The debt owed by the trust can be gifted off, but as gifting programs are usually only completed over a number of years due to gift duty (this might change if gift duty is abolished later this year as currently proposed), there is usually some debt owing by the trust for quite some time.

What should Daniel have done differently?

Daniel could have set up a trust before purchasing the house and completed the purchase of the property in the name of the trust. Alternatively, Daniel could have set up the trust and transferred the property into the trust as long as it was before he was in a relationship.  That way, the property would not have been owned by Daniel when he entered into his relationship.

Since Daniel did not set up a trust before his relationship with Lisa, Daniel should have signed a contracting out agreement with Lisa. A contracting out agreement should have been done before Lisa moved into his house, to protect the house from relationship property claims.  This agreement would have documented his house as being his separate property and Lisa would have specifically acknowledged in this agreement that she had no interest in his property. If the contracting out agreement spelt out that the property was Daniel’s “separate property” then he could deal with it as he wished, including transferring it into trust, during the relationship and Lisa would not be able to claim a share of it when they separated. 

A lot of people find it difficult to think about the future and to spend money to protect themselves from situations that may not even happen.  However, if you choose not to protect your assets the losses you can suffer as a result far outweigh the cost of setting things up to protect the assets you have worked hard for.

It is always better to protect your assets before a relationship commences. Once you are in a de facto relationship, rights and entitlements are in place. If you are not in a relationship and you own property, think about transferring your property into a trust. Or if you are contemplating buying property think about setting up a trust first and arrange for the trust to purchase the property. When entering into a relationship always think about a contracting out agreement to ensure your property is protected.

In limited situations involving married couples there are even avenues for the Court to access property in a trust.  Care needs to be had when drafting a trust deed and drafting a contracting out agreement to avoid these situations. It’s best to speak to your lawyer to get good advice about this.

Richard Lang is a partner of national and trans-Tasman lawyers Duncan Cotterill. R.lang@Duncan Cotterill.com

Disclaimer: the content of this article is general in nature and not intended as a substitute for specific professional advice on any matter and should not be relied upon for that purpose.