Why Trusts are not suitable for Building & Construction businesses

Trusts have traditionally been used for SME business structures, including businesses operating within the Building & Construction industry.

While using a trust remains possible, it’s an expensive and inefficient way to structure a business needing to meet MFR requirements.

Here’s why:

  • You can’t include the assetsThe MFR requirements have never allowed assets held in trust to be included as Net Tangible Assets.  On the face of it, this seems an unreasonable ruling however, the reality is, most trading trusts are worth no more than their $10 settlement sum.  
  • A Trust cannot hold a Builders License Under the QBCC rules, a trust cannot hold a builders licence, it must be held by the Trustee which can be a corporate entity or an individual. For the purpose of day to day trade, this isn’t an issue. This issue is in the complexity of the reporting requirements. For Net Tangible Asset calculations, the position of the Trustee ONLY is used. for Turnover and Current Ratio calculations, the COMBINED position of the Trustee and the Trust is used. 

Under the QBCC rules, a trust cannot hold a builders licence, it must be held by the Trustee which can be a corporate entity or an individual.

Where does the Corporate Trustee’s  assets come from?

There are two ways to meet the Net Tangible Asset requirement for MFR reporting. One of them is to  capitalise the corporate trustee. So what are you capitalising the trustee with? We’ve seen several instances where shares are issued in the Trustee company against cash deposits, only to have the cash  advanced out immediately to a related entity (who wants to leave cash sitting around?).  This in turn becomes an issue around related party loans. Is it recoverable? Is it excluded as an asset under the MFR rules? Is it current or non-current? More issues requiring assessment, verification and the application of Accounting Standards. More entities to have formally reported. More expense.

What about a Deed of Assurance?

The other way to meet the Net Tangible Asset requirement for MFR reporting (for categories above SC2) is to provide a Deed of Assurance (“Deed”). Say you needed $100,000 in net assets, you could use a Deed from a Director or Beneficiary of the trust (amongst others).  The assets used to secure a Deed of Assurance (typically a home) would need to be unencumbered, and the value of the unencumbered asset needs to be offset against any related entity loans or unpaid distributions from the trust. The unencumbered residual value is available to secure a Deed of Assurance. It’s also worth considering how long the Assurer intends to hold the asset. The Deed will be required for as long as the license is required. In recent times, the QBCC are checking Deeds of Assurance in more detail as secured assets are often not there when called upon.

Can a Licensee use a deed?

A Deed can only be used where the Licensee has Net Tangible Assets of at least $0.  This doesn’t leave much headroom if the Trustee only has $2 of share capital.  When undergoing assessment for MFR requirements, it’s very easy to have an asset excluded. Consider borrowing costs or debtors over 180 days… your $10 Net Tangible Assets can very quickly be assessed as a deficit.

Here’s a quick example:

Let’s say you have $1,000 of borrowing costs on the balance sheet.  The trust then has a deficit of ($990) being the $10 settlement sum less $1,000 borrowing costs.  This in turn leaves the  Licensee with a deficit of ($988) being $2 in share capital less $990 trust liability.  You can no longer use a Deed of Assurance.  Now, we’re not suggesting the deficit in this situation would be difficult to fix, but the Builders Licence may be suspended while sorting this out.  And what happens if the deficit is larger and more complex?

To be clear, this is not a new provision. It’s always been the case that a trustee has a liability if the trust has a deficit.

 Revenue & Current Ratio

An often-forgotten reporting requirement, the total revenue for a trust to be disclosed under MFR reporting is the COMBINED revenue of the Trust AND the Trustee.  This requirement extends to the Current Ratio.

Easily missed even today.

WANT MORE?

Read more on common structuring mistakes for the Building and Construction industry here.

If you’d prefer to read about some solutions to these issues, try this article.

This publication is © Mage Advisory and is for general guidance only. Professional advice should be sought before taking action in relation to any specific issues.

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