One of the ways in which a bare trust can be used is to let a small number of sophisticated or wholesale investors access their investment through one legal entity. This is particularly useful when an investment can only be made by one entity.
‘Single-investor’ models are convenient for a range of investments including shares, options and convertible notes. This model could also work with more speculative investments such as crypto or digital currencies or foreign investments.
How do bare trusts work?
In a bare trust, the assets are held in the name of a trustee who holds them legally and on trust for each beneficiary. Sometimes, the trustee is an investment manager who has helped source and access the investment. In other situations, the investors have made their own assessment of whether to invest without any advice from an investment manager.
One of the benefits of a bare trust is that the trustee has no say in how the capital or income of the trust is distributed. The beneficiary can call for the capital, assets and income of the trust whenever they want. The trustee is just responsible for distributing the profits or returns and transferring the asset to the beneficiary if they ask.
To set up a bare trust, each investor signs a separate trust deed with the trustee. The investor’s funds are not pooled to purchase the investment, as this would create a managed investment scheme.
As this is truly a single-investor model, it can only be used where each asset can be separately identified as being held on trust for each beneficiary. That’s why it works well for things like shares or notes.
Once set up, you can use the bare trust for other investment opportunities in the future. It’s also simpler and less expensive to operate than a unit trust.
What are the costs associated with a bare trust?
Trustees or investment managers often charge a fee for their services, but friends or family may offer to be a trustee for free. Any fee should be deducted from the returns or dividends that the beneficiary is paid.
When you set up a bare trust you may also have to pay stamp duty. This is a one-off amount that is paid when the document is executed. The amount of stamp duty paid depends on the state where the trust is set up.
It’s not possible to ‘jurisdiction-shop’ for the best stamp duty rate though. The courts have held that trusts should be set up in the state where the trust has the most real and substantial connection. For example, if the trustee, beneficiaries and the investment asset are all located in New South Wales, the trust deed should be stamped in New South Wales.
The beneficiaries should also seek advice about their capital gains tax liability and any other possible issues that may affect them before they use a bare trust.
Do bare trusts need to comply with other regulatory requirements?
The trustee and investment manager may need to hold an Australian financial services licence (AFSL) if they are advising on the investment. They may also need to be licensed if the asset is a financial product.
If the trustee or investment manager doesn’t hold an AFSL to provide custodial services the bare trust cannot have more than 20 investors.
If you are considering whether a bare trust might work for you or would like help establishing one, contact Charmian Holmes or Lydia Carstensen. We’d be happy to help.
Author: Lydia Carstensen