Do the Income Tax Accrual Rules Apply to Gifts to Trusts?
Many people lend money to their family trust and later decide to forgive the debt as a gift. This is where the tax rules can bite.
1. Debt Forgiveness is Normally Income
The financial arrangements rules treat a forgiven debt as income to the trust (the borrower). That means the trust could pay tax at 39% on the forgiven amount.
2. The “Natural Love and Affection” Exception
There is an exception if:
The creditor is a natural person (not a company), and
The debt is forgiven out of natural love and affection for the beneficiaries (for example, children), and
The trust was set up mainly for those beneficiaries or for charitable purposes.
In that case, the debt is treated as if it was fully repaid—so no taxable income arises.
3. Where It Fails
If the creditor is a company, or the trust’s beneficiaries include a company, the exception doesn’t apply. The trust will have taxable income from the forgiven debt.
Example:
Amelia lends her family trust $200,000 to help buy a rental property. A few years later, she forgives the loan. Because Amelia is an individual and the trust was set up for her children, the forgiveness is covered by the “love and affection” rule. No tax is payable.
By contrast, if Amelia’s company had made the loan instead, the trust would have had to return $200,000 as income and pay tax at 39%.
Legislation: Income Tax Act 2007, sections EW 31–32 and EW 44.
IRD Guidance: Estate or Trust Return Guide (IR6G) | QB 20/02: Natural love and affection debt remission
