The problem is that using a discretionary trust to distribute income to family members can affect your overall borrowing power. In addition, some lenders won’t accept trust distributions as a source of income which can also affect your ability to apply for a home loan.
Are you self-employed and using a discretionary trust?
Self-employed people often set-up a trust for their business and distribute income to family members for the tax benefits.
Although it depends on your specific situation, you may be able to borrow up to:
- 80% of the property value if you want to add back all of the distribution payments.
- 90% of the property value with some lenders who have a delegated underwriting authority.
Unfortunately, some banks don’t accept this and assume that the money being distributed is going to the beneficiaries and actually being used.
Call us today on 1300 889 743 or fill in our free assessment form so that one of our mortgage brokers can properly assess your situation.
We’re experts in helping people who have a trust set up for tax purposes. Banks generally don’t understand them at all!
How much can you “add back”?
There are legitimate reasons for setting up a trust in order to distribute funds to your family. The bottom line is, do not simply set up a trust just for the tax benefits because it may have a big impact when you need to apply for a mortgage.
For example, if you distribute $30,000 to your wife every year, a bank may consider this as a living expense if she isn’t working.
In addition, a beneficiary who is 18 or over is a legal entity which means you cannot simply say to the lender that you’re no longer going to be making trust distributions to them, especially if there is already a two to three year history of you making consistent payments from your income.
Mortgage insurance providers don’t like trust distributions at all and most lenders tend to take the same black and white approach.
We know lenders that can “add” this distribution back into your assessable income because they understand that it is not a real expense and has been done for tax purposes.
In most situations, if the spouse is on the loan or the distributions are going to a dependent (child under 18), some lenders can use that distribution income as part of their serviceability calculation.
There will need to be valid reason for trust distributions and you will usually be required to provide a letter from your accountant to confirm that the beneficiaries are not financially dependent on this income.
Call us today on 1300 889 743 or fill in our free assessment form to discover how we can help you.
Do trust distributions count towards your assessable income?
Discretionary trusts allow for nominated beneficiaries in the trust deed, meaning income can be distributed to family and friends.
Although income is distributed at the discretion of the trustee, it is usually to beneficiaries who pay tax at lower marginal rates.
If you are a beneficiary of trust distributions and looking to apply for a home loan, some lenders won’t count these distributions as a source of income when assessing your borrowing power.
In most cases, legitimate beneficiaries are only considered to be a spouse or a child over 18 because it shows that there is a clear benefit from the trust. The lender may ask for:
- A copy of the trustee: This shows that you’re a beneficiary within the trust.
- At least two years worth of tax returns: This shows consistent income from the trust.
- Two years worth of company tax returns: This will indicate that the company is doing well enough to be distributing money. Companies sometimes distribute money because they’re running at a loss and will benefit from the reduced tax.
If you’re a spouse and you have legitimate reasons for receiving a trust distribution, we can use 100% of the distribution in our income assessment.
For children over 18 relying on trust distribution income, lenders will generally take a conservative approach and consider the distributions as a secondary source of income.
For beneficiaries relying on both a full time income and trust distributions in order to apply for a home loan, this is a red flag for most lenders.
Fill in our free assessment form or call 1300 889 743 to speak with one of our specialist mortgage brokers today.
What if you’re not within the family?
If you receive trust distributions from a third party or you distribute income through your trust to a third party then lenders can accept this as part of your assessable income on a case by case basis.
In most cases, it’s a high risk for the bank to accept third party distributions because it is not a “safe” stream of income. Banks assume that if something goes wrong with the company, then they will simply stop making the trust payments to you as the beneficiary.
Similarly, distributing trust income to a third party provides no clear benefit to the borrower’s family.
If, for instance, a third party beneficiary and the company owner were to apply for a home loan and both wanted to add back distributions, it would be considered “double dipping” and wouldn’t be approved.
It’s often a lot easier for both the husband and wife to be on the loan application because the lender can clearly see both incomes and take the trust income into consideration.
In saying that, a lender may accept income earned from a joint venture, or a formal agreement, between you and an unrelated party that’s set up through a trust.
For example, if you and your friend bought an investment property through a trust, the income earned would not be from a third party because you’re both within the trust even though you’re not family.
For other types of investment earned in a trust, the bank can accept 100% of it if you can prove a stable income over 2 years and you still have the actual investments.
That means if the funds you require to complete the purchase include income from the sale of these assets or shares then the lender won’t accept it because you will no longer own these assets after settlement.
What is a discretionary trust?
A discretionary trust is a type of trust where the beneficiaries do not have fixed interest.
Instead, the trustee determines which beneficiaries are to receive the trust funds and how much each is entitled to receive. The trustee must comply with the terms in the trust deed and any restrictions imposed when doing so.
Apply for a home loan today
There are a number of different types of trusts, each with their own terms and conditions. We strongly recommend that you speak to an accountant and seek financial advice before setting up a trust.
Do you need a home loan but aren’t sure how the bank will view distributions from a discretionary account?
We can find a lender that best suits your needs and may even be able to find one that doesn’t need to add back distributions because their serviceability calculator is more lenient to investors.
Speak to us. Our mortgage brokers are specialists in discretionary trusts and know which lenders take a “common sense” approach when assessing your application.
Call 1300 889 743 or complete this form to receive a free assessment.