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Unit Trusts: Benefits, Setup, and Key Differences

Published 24/09/2024 | Last Updated 24/09/2024

Written by:
Joel Simmonds
Head of Advice  

A unit trust is a popular investment structure in Australia, often used for holding assets or managing investments on behalf of multiple beneficiaries. If you’re seeking a way to pool investments, manage risks, or take advantage of tax benefits, a unit trust might be an ideal solution.

But what exactly is a unit trust, and how does it differ from other trust structures? Whether you’re new to trusts or exploring the benefits of setting one up, it’s essential to understand how unit trusts operate and why they’re often chosen for investment and wealth management.

In this guide, we’ll break down the key features of a unit trust, explain how it contrasts with discretionary and family trusts, and explore when a unit trust might be the best option for your financial strategy.

By the end, you’ll have a solid understanding of how a unit trust works, when to use it, and how it could help you reach your financial or investment goals.

Table of Contents

What is a Unit Trust?

A unit trust is a type of investment structure where funds are pooled together from various investors to invest in assets such as property, shares, or other securities.

Unlike a discretionary trust, where the trustee has discretion in distributing income, a unit trust distributes income and capital based on the number of units each investor holds. This structure makes unit trusts more transparent and predictable, allowing each investor to receive their share of profits relative to their investment.

In Australia, unit trusts are widely used for investment purposes, as they provide a way for individuals and companies to pool their resources and invest in larger or more diversified portfolios than they might manage individually.

Key characteristics of unit trusts include:

  • Defined units of ownership, which represent an investor’s share in the trust.
  • Income distribution based on the number of units held by each investor.
  • Defined roles for the trustee, who manages the trust, and the unitholders, who benefit from the trust.

This structure is commonly used in property investments, mutual funds, and other pooled investment vehicles.

Why Use a Unit Trust?

People set up unit trusts for a variety of reasons, including:

  • Investment Flexibility: Unit trusts allow for easy pooling of funds from multiple investors, making them an excellent vehicle for managing larger investment portfolios. Each investor holds “units,” representing their share in the trust, giving them proportional ownership of the assets.
  • Risk Management: By spreading investments across different asset classes or sectors, unit trusts help investors manage risk. The ability to diversify helps protect against the volatility of a single investment and balances the overall portfolio.
  • Transparency and Accountability: Unit trusts operate with clear guidelines on how returns are distributed to unit holders. Investors benefit from transparent reporting on income and capital gains, which makes it easier to track the performance of the investment.
  • Tax Efficiency: Unit trusts offer tax advantages, as income and capital gains are generally passed through to unit holders without being taxed at the trust level, avoiding double taxation. Investors can also benefit from holding assets in a trust structure rather than individually, depending on their tax situation.

Advantages and Disadvantages of Unit Trusts

When considering whether a unit trust is the right investment structure for you, it’s important to weigh the pros and cons:

Advantages of Unit Trusts

  • Transparency: Each unitholder knows exactly what portion of the income and assets they own, unlike discretionary trusts, where distributions can vary.
  • Predictability: Because income is distributed according to units, there is less uncertainty for investors.
  • Pooling of Resources: Unit trusts allow smaller investors to combine their funds to access larger, more diverse investments.
  • Flexibility: Investors can easily buy or sell units in the trust, making it a more liquid form of investment.

Disadvantages of Unit Trusts

  • Limited Control: Unitholders typically don’t have a say in how the assets are managed, as this responsibility falls to the trustee.
  • Tax Efficiency: Compared to some other structures, unit trusts may not always provide the most tax-efficient outcomes for all investors.
  • Potential Costs: Unit trusts may involve management fees and other costs that reduce overall returns.

How Unit Trusts Work in Australia

In Australia, unit trusts are often used for managing investments in property, shares, or other financial assets.

The trust itself is governed by a trust deed, which sets out the rules for managing the trust and distributing income.

Investors purchase units in the trust, and their ownership of the trust is proportional to the number of units they hold. This makes unit trusts an attractive option for those looking to invest in larger-scale ventures but who may not have the capital to do so individually.

Unit trusts in Australia are also frequently used by self-managed super funds (SMSFs), providing a way for trustees to diversify their retirement investments.

Taxation of Unit Trusts

The taxation of unit trusts in Australia depends on the income generated by the trust and the structure of the trust itself.

Generally, unit trusts are not taxed at the trust level. Instead, income is distributed to the unitholders, who are then responsible for paying tax on their share of the trust’s earnings. 

Key points include:

  • Tax on Unit Trust Income: Unitholders are taxed on the income they receive from the trust, whether it’s in the form of rent, dividends, or interest.
  • Capital Gains Tax (CGT): If the trust sells assets and generates a capital gain, the unitholders may be liable for CGT, depending on their individual tax situation.
  • Tax Efficiency: Some unit trusts may offer tax advantages, particularly if they are structured to distribute franking credits or take advantage of capital gains tax discounts.

Unit Trusts vs Other Trusts

There are several types of trusts used for investment purposes in Australia, and it’s important to understand how unit trusts compare to other options, such as discretionary trusts or family trusts.

  • Unit Trust vs Discretionary Trust: A discretionary trust allows the trustee to decide how to distribute income among the beneficiaries, whereas a unit trust allocates income based on the number of units held by each investor. This makes unit trusts more predictable and transparent for investors who want to know exactly how much income they will receive.
  • Unit Trust vs Family Trust: A family trust is typically used to protect family wealth and minimise tax within a family group, with income distributed at the discretion of the trustee. In contrast, a unit trust distributes income based on ownership units, making it a better option for unrelated investors or more formal business arrangements.
  • Fixed Unit Trust: A fixed unit trust is a type of unit trust where the unitholders’ rights to income and capital are fixed. This provides certainty in terms of how income will be distributed and is often used in property investment structures.

Setting Up a Unit Trust in Australia

Setting up a unit trust in Australia involves several steps:

  1. Create a Trust Deed: The trust deed is the legal document that sets out the terms of the trust, including the role of the trustee, the rights of the unitholders, and the rules for distributing income and managing the trust’s assets.
  2. Appoint a Trustee: The trustee is responsible for managing the trust’s assets and ensuring the trust operates according to the terms set out in the trust deed.
  3. Issue Units: Units are issued to investors based on their contributions to the trust. These units represent their ownership share in the trust and determine how much income they will receive.
  4. Register the Trust: Depending on the size and structure of the trust, it may need to be registered with the Australian Securities and Investments Commission (ASIC).
  5. Comply with Tax Obligations: Ensure the trust complies with tax reporting requirements, including distributinga income to unitholders and reporting any capital gains or losses.

Need Help with Setting Up Your Unit Trust?

A unit trust can be an effective way to pool resources and invest in larger, more diverse assets than you might be able to manage on your own. 

Whether you’re considering a unit trust for property investment, as part of an SMSF strategy, or simply to diversify your portfolio, it’s important to understand the pros and cons, how the trust operates, and the tax implications.

If you’re unsure whether a unit trust is right for you or need assistance in setting one up, it’s always a good idea to seek professional financial advice to ensure you’re making the best decision for your financial future.

Click here to learn more about our Investment Advice services.

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FAQs About Unit Trusts

Here’s some of the most commonly asked questions about discretionary trusts.

If your question isn’t answered below, please feel free to get in touch. We’re always happy to help.

1. What is the Difference Between a Unit Trust and a Discretionary Trust?

The key difference lies in how profits are distributed. In a unit trust, distributions are based on the number of units each investor holds.

In contrast, a discretionary trust allows the trustee to decide how the income or profits are distributed, giving them greater flexibility.

2. What is a Fixed Unit Trust?

A fixed unit trust operates similarly to a traditional unit trust, but the distributions to unit holders are fixed and predetermined.

This type of structure is often preferred for those who want a more predictable return, as profits are divided in a set way based on the units held.

3. What is a Cash Management Unit Trust?

A cash management unit trust primarily invests in cash-based securities such as term deposits, government bonds, and other short-term interest-bearing investments.

This is often a lower-risk option for investors seeking a stable return while maintaining liquidity.

4. Can a Unit Trust Borrow Money?

Yes, a unit trust can borrow money to fund its investments. This is often referred to as a geared unit trust, where borrowing is used to leverage the investments within the trust. However, this increases the risk, as any losses are also magnified.

5. Can a Unit Trust Invest in Property?

Yes, property unit trusts are a popular option in Australia. These trusts pool funds to invest in various types of property, including residential, commercial, and industrial properties.

Unit holders receive returns based on the rental income and capital growth of the properties owned by the trust.

6. Can a SMSF Invest in a Unit Trust?

Yes, a self-managed super fund (SMSF) can invest in unit trusts, including geared unit trusts and related unit trusts. However, there are strict rules and regulations set by the Australian Taxation Office (ATO) that govern these investments.

Always seek professional advice before including unit trusts in your SMSF portfolio.

7. How Are Unit Trusts Taxed in Australia?

The taxation of unit trusts depends on how the trust is structured and the income it generates. In general, the income distributed to unit holders is taxed at the individual’s marginal tax rate. Capital gains tax (CGT) may also apply when units are sold at a profit.

8. What Is a Unit Trust Trustee, and What Do They Do?

The trustee of a unit trust is responsible for managing the trust’s assets, making investment decisions, and ensuring the trust operates according to the terms set out in the unit trust deed. The trustee acts in the best interests of the unit holders and is legally obligated to act within the law and the trust’s guidelines.

9. What Is the Process for Setting Up a Unit Trust in Australia?

Setting up a unit trust involves the following steps:

  1. Drafting a unit trust deed, which outlines the terms of the trust.
  2. Appointing a trustee to manage the trust’s assets.
  3. Registering the trust for tax purposes with the ATO.
  4. Issuing units to investors.
  5. Opening a unit trust bank account to manage the trust’s financial activities.

10. Can a Unit Trust Pay Dividends?

Yes, some unit trusts, especially those that invest in dividend-yielding assets, may pay distributions to unit holders that are similar to dividends. These distributions can come from interest, rent, dividends from shares, or capital gains.

11. What Is the Difference Between a Unit Trust and an ETF?

Both unit trusts and exchange-traded funds (ETFs) allow for pooled investments, but there are key differences. Unit trusts are typically managed by a trustee and can be more flexible with their asset choices, whereas ETFs are traded on the stock exchange and offer greater liquidity, making them easier to buy and sell.

12. Can a Unit Trust Pay Dividends?

A company is a separate legal entity that can own assets, earn income, and be taxed independently of its shareholders. A unit trust, on the other hand, is not a separate legal entity, and income is passed through to unit holders, who are taxed at their individual rates.

Companies offer more flexibility with reinvesting profits, while unit trusts provide better transparency in terms of income distribution.

13. What Are the Fees Associated with a Unit Trust?

The fees for managing a unit trust can include:

  • Management fees: Charged for overseeing the trust’s investments.
  • Administration fees: For the day-to-day operations of the trust.
  • Entry and exit fees: Some unit trusts charge fees when you buy or sell units.

14. What Are the Different Types of Unit Trusts?

There are various types of unit trusts, including:

  • Fixed unit trusts
  • Geared unit trusts
  • Retail unit trusts
  • Property unit trusts
  • Cash management unit trusts

Each type of trust caters to different investment needs, from conservative cash-based trusts to more aggressive property or geared trusts.

15. Can a Unit Trust Be Converted into a Discretionary Trust?

Yes, it is possible to convert a unit trust into a discretionary trust if the terms of the trust deed allow for it.

This process can be complex and may have tax implications, so it’s essential to consult with a legal or financial advisor before making any changes.

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December 5, 2024

This is a publication of Direct Wealth Pty Ltd, a wholly owned subsidiary of Direct Wealth Group Pty Ltd.

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