Of the total trust population, SDTs make up a small component – perhaps because of the stringent requirements that apply to them. But an SDT can confer significant tax advantages and should be considered by those seeking to make financial provision for the care and accommodation needs of a family member with a severe disability.

SDTs can be created inter-vivos or by Will. The trusts are described as ‘special’ because of the social security and tax concessions that apply to them, not the nature of the disability affecting the principal beneficiary of the trust.

1.1 What is a Special Disability Trust?

A trust qualifies as an SDT if it satisfies the definition in the Social Security Act 1991 or the Veterans Entitlements Act 1986. This article focuses on the social security definition in section 1209L.

A trust is a special disability trust if all of the following requirements are met:

• the beneficiary requirements (section 1209M)
• the trust purpose requirements (section 1209N)
• the trust deed requirements (section 1209P)
• the trustee requirements (section 1209Q)
• the trust property requirements (section 1209R)
• the trust expenditure requirements, if any (section 1209RA)
• the reporting requirements (section 1209S)
• the audit requirements (section 1209T).

1.1.1 The beneficiary requirements

Apart from any residuary beneficiary, an SDT must have only one beneficiary (the principal beneficiary).

The principal beneficiary must have a severe disability. If the beneficiary is over 16 [1] this means that the beneficiary:

• has a level of impairment that would qualify them for Disability Support Pension or who is already receiving a Department of Veterans’ Affairs Invalidity Service Pension or Department of Veterans’ Affairs Invalidity Income Support Supplement, and
• has a disability that would, if they had a sole carer, qualify the carer for Carer Payment or Carer Allowance, or who is living in an institution, hostel or group home in which care is provided for people with disabilities and for which funding is provided under an agreement between the Commonwealth, states and territories, and
• has a disability which meant they have no likelihood of working for more than seven hours per week at or above the relevant minimum wage.

A trust can’t be a special disability trust if at time it is created, an SDT already exists for the principal beneficiary.

A trust can only be a SDT while the principal beneficiary is alive.

1.1.2 Trust purpose requirements²

The primary purpose of an SDT during the lifetime of the principal beneficiary, must be to meet the reasonable care and accommodation needs of that beneficiary.

An SDT may have other purposes that are ancillary to the primary purpose and necessary or desirable to facilitate the achievement of that purpose or which are primarily for the benefit of the principal beneficiary.

What is reasonable is determined by having regard to all of the circumstances and, in particular, the principal beneficiary’s care and accommodation needs that are necessary because of their disability and the trust’s total assets.

An SDT can undertake a level of discretionary spending for the benefit of the principal beneficiary that is not directly related to their care and accommodation needs. This provides SDTs with some flexibility to meet costs relating to the beneficiary’s health, wellbeing, recreation, independence and social inclusion.

The discretionary spending limit was initially set at $10,000 on 1 January 2011. It is indexed each year for inflation. For the 2020-21 year the limit was $12,500.

Because of the quite limited amount of discretionary spending which a trustee can undertake, those seeking to establish an SDT for a beneficiary, might consider supplementing the SDT amounts with distributions from a discretionary trust.

1.1.3 Trust deed requirements

The trust deed for an SDT must contain certain compulsory clauses from the Model Trust Deed prepared by DSS. These clauses are set out in Social Security (Special Disability Trust — Trust Deed, Reporting and Audit Requirements) (FaHCSIA) Determination 2013. Other provisions can be added to an SDT Deed provided they are not inconsistent with the compulsory clauses or have the effect of overriding them.

1.1.4 Trustee requirements

A trustee who is an individual must be an Australian resident and not have been convicted of an offence involving dishonest conduct or under the Social Security or Veterans Entitlements Acts and must not have been disqualified from managing a company.

Similarly, if there is a corporate trustee, each director must satisfy these requirements.

1.1.5 Trust property requirements

The principal beneficiary or their partner can only contribute assets to an SDT if

• the assets are a bequest or a superannuation death benefit, and
• the assets are transferred to the trust within three years of their receipt.

Other amounts, such as compensation payments cannot be contributed to the SDT.

There are also rules that prevent payments being made to an immediate family member or child of a beneficiary for:

• care, or
• services related to the beneficiary’s accommodation, or
• the purchase of lease of a property.

1.1.6 Reporting requirements

By 31 March each year, the trustees must provide to Social Security a copy of the trust’s written financial statements for the previous financial year ending on 30 June [3].

The financial statements must be prepared by a qualified accountant who is not a relative of the trustee or a trust beneficiary. They must include a statement to the effect that, all amounts paid out of the trust (other than reasonable administration expenses and taxation) were paid to meet the reasonable care and accommodation needs of the principal beneficiary; a purpose ancillary to that or for purposes primarily for the benefit of the principal beneficiary.

1.1.7 Audit requirements

The trustees of an SDT must request cause an audit to be carried out, within a reasonable time after receiving a request from a principal beneficiary, an immediate family member, guardian or financial administrator of the principal beneficiary or DSS. Again there are rules about who is qualified to carry out the audit.

1.2 Benefits of SDT

1.2.1 Social security benefits

A lot of material published about SDTs focuses on the associated social security concessions, including issues that arise following the death of the principal beneficiary.

For example, assets held in an SDT up to the concessional asset value limit ($700,250 as at 1 July 2021) are exempt from the assets test for the principal beneficiary. And no income from an SDT is taken into account under the principal beneficiary’s income test (regardless of the total value of the SDT’s assets).

There is also a gifting concession for immediate family members of the principal beneficiary who are receiving a relevant pension. They can gift up to a combined amount of $500,000 (unindexed) into an SDT without the money being assessed under normal gifting rules.

1.2.2 Tax benefits

While the value of the social security benefits will depend on the net worth of the principal beneficiary and the family members contributing to the SDT, the tax benefits are not so limited.

Perhaps the most important benefit is the exemption that applies when an asset becomes an asset of an SDT. Section 118-85 of the ITAA provides that any capital gain or loss from a CGT event that happens when an asset is transferred for no consideration to a SDT or a trust that becomes a SDT as soon as practical after the transfer is disregarded.

Further, the trustee acquires the asset for market value, including if it passes to the trustee as the result of the death of the owner of an asset.

Example

Janet has 2 children, Glenn and Frank. Glenn suffers from a severe disability. She is concerned to ensure that he is well taken care of when she dies. Glenn’s condition is such that he must live in a residential care facility.

Janet’s Will effectively divides her estate equally between the two children. Glenn’s share is to be held on the terms of two trusts, one a special disability trust (of which Glenn is the principal beneficiary and Frank is nominated as the residuary beneficiary) and the other a discretionary trust. The SDT will hold 80% of Glenn’s share. The funds in the discretionary trust are intended to be used to for expenses that are not allowable in an SDT – such as food and entertainment.

When Janet dies her estate consists of:

• her main residence (valued at $2.5 million)
• a holiday home in rural NSW that she acquired pre-CGT (valued at $1 million)
• an extensive share portfolio (the total of the cost bases of her shares is $750,000 and their market value is $3 million)
• cash ($1million)

The executor of her estate seeks advice about the tax consequences of selling or appropriating the assets between the beneficiaries. Each child’s share of the estate is $3.75 million.

The executor will acquire the main residence and holiday home for their market values. The cost base of the shares will depend on whether they are appropriated to:

• Frank or Glenn’s discretionary trust – they will be acquired for the deceased’s cost base; or
• the SDT – market value.

There is a potential future tax saving to the extent that the assets with an inherent capital gain can be appropriated to the SDT. For example, the total gains inherent in the shares after CGT discount is approximately $1.125 million. Tax on that amount could be saved; @ 47% that would be $528,750.

The other potential tax benefits that can apply to an SDT are:

• The trustee is assessed under section 98 of the ITAA 1936 on all of the trust’s net income. This is achieved by the assumption in section 95AB of the ITAA 1936 that the beneficiary is presently entitled to all of the income whether or not there is income. This means that the all of the net income is assessed at individual marginal rates.
• This is perhaps only a benefit if the SDT was created inter-vivos and the trustee would otherwise be assessed under section 99A at the top marginal tax rate. If the SDT is created under a Will, the trustee would be assessed on the net income not otherwise assessed under section 98. If the trustee is assessed under section 99, marginal rates apply (although without the benefit of the tax-free threshold.
• Finally, the trustee of an SDT may qualify for a main residence exemption for a capital gain from a dwelling occupied by the principal beneficiary. Again, a similar result can be achieved under a testamentary trust if the beneficiary is provided with a right to occupy a dwelling. The benefit here is again mostly for a trust created inter-vivos.

[1] There are similar rules for children under 16
[2] This information is contained in section 4.14.3.30 of the Social Security Guide, https://guides.dss.gov.au/guide-social-security-law/4/14/3/30
[3] section 1209S of the Social Security Act 1991 and section 3.2 of the Social Security (Special Disability Trust – Trust Deed, Reporting and Audit Requirements (FaHCSIA) Determination 2013 (Determination). S3.2(2)(b) of the Determination requires that the financial statements “comply with the relevant Australian Accounting Standards”. S3.2(1) of the Determination defines the financial statements as “a profit and loss statement”, “a balance sheet with applicable notes” and “if necessary, a depreciation schedule for each class of trust asset