Discretionary vs. Fixed Trusts: Key Differences

Choosing between a discretionary trust and a fixed trust can feel like picking a lock with too many keys. Both hold assets, both name beneficiaries, and both use a trustee to run the show. Yet they behave differently in critical moments—when tax is due, when family members fall out, when a beneficiary divorces or goes bankrupt, and when the next generation takes over. I’ve advised families, founders, and professionals through that decision many times. The format you choose should be driven by what you want to protect, who you want to benefit, and how much flexibility you’re willing to manage.

Trusts in Plain English

A trust is a legal arrangement where:

• A settlor provides assets (money, shares, property).

• A trustee controls and manages the assets.

• Beneficiaries receive income and/or capital under the terms of the trust deed.

• Sometimes there’s a protector or appointor who can replace the trustee or veto key decisions.

The trust deed is the instruction manual. If the deed is clear and the trustee follows it diligently, the trust does what you expect—no drama.

The main divide between trust types comes down to who controls the flow of benefits.

• Fixed trusts lock in who gets what, and when.

• Discretionary trusts leave the timing and amount of distributions up to the trustee, within the deed’s boundaries.

Everything else—tax nuances, asset protection, bankability—flows from that one distinction.

What Is a Fixed Trust?

A fixed trust (sometimes called a non-discretionary or interest-in-possession trust) gives one or more beneficiaries a defined entitlement to income and/or capital. That entitlement might be:

• A right to all income as it arises (an “income beneficiary”).

• A right to a specific fraction of income or capital.

• Unit holdings in a unit trust that translate into proportional rights (common in property syndicates and investor groups).

How a Fixed Trust Operates

• The trustee still manages investments and paperwork but has limited discretion over distributions—the beneficiaries’ entitlements are set by the deed.

• Beneficiaries may have a present right to income each year, or they may have a fixed future right to capital at a certain date or event.

• Unit trusts are a popular fixed form: each unit carries rights to income and capital in proportion to the units held, much like shares in a company but with different tax treatment and governance.

Advantages of Fixed Trusts

• Certainty for beneficiaries: lenders like predictability; courts do too when disputes arise.

• Clear tax flow-through: it’s easier to determine who should report what, which helps with tax planning in some jurisdictions.

• Easier to value interests: units in a unit trust can be bought, sold, or pledged as security more readily than undefined discretionary interests.

• Good for unrelated investors: rules-based allocation reduces arguments.

Disadvantages of Fixed Trusts

• Limited flexibility: you can’t easily change distributions to respond to tax rates, personal circumstances, or new beneficiaries without amending the deed (or setting up a new trust).

• Potential inefficiency across a family group: if one beneficiary is on a high marginal rate, you can’t reallocate their share to a lower-rate family member unless the deed allows transfers.

• Estate planning rigidity: fixed rights can create unwanted entitlements during divorce or bankruptcy proceedings.

A Quick Example

Two engineers co-invest in a commercial property via a unit trust. They buy units 50/50. Rent is distributed proportionally; expenses are shared proportionally. If one wants to exit, the units can be valued and transferred or redeemed. This structure is tidy, bankable, and low on interpersonal friction because it’s rule-based.

What Is a Discretionary Trust?

In a discretionary trust, the trustee decides how much income or capital to distribute, to whom, and when—again, within the deed’s parameters. Beneficiaries have no guaranteed entitlement. Instead, they’re potential recipients. The trustee exercises judgment each year (or as needed).

Most family trusts are discretionary. The deed often names a wide class of beneficiaries (spouse, children, grandchildren, companies or trusts they control) and includes a mechanism for adding or excluding beneficiaries.

A practical control feature in many deeds is the appointor (or protector)—the person or entity who can hire and fire the trustee. Real control often follows the appointor, not the trustee, so succession planning for that role is critical.

Advantages of Discretionary Trusts

• Flexibility: distributions can be tailored annually to beneficiaries’ needs and tax positions.

• Asset protection benefits: because beneficiaries don’t have fixed entitlements, there’s less for creditors or ex-spouses to target—though protection is not absolute and varies by jurisdiction.

• Family governance: trustees can respond to health issues, special needs, spendthrift behavior, or education goals without re-engineering the structure.

• Income streaming: in some jurisdictions, different types of income (capital gains, franked dividends) can be streamed to different beneficiaries efficiently if the deed allows.

Disadvantages of Discretionary Trusts

• Uncertainty: beneficiaries can’t bank on a fixed share, which can be a problem for lenders or when families expect equal treatment.

• Administration and documentation: resolutions must be drafted on time and correctly; sloppy minutes can blow up tax outcomes.

• Tax traps: if distributions aren’t made or documented properly, the trustee can be taxed at punitive rates. Special rules often apply to distributions to minors or to related companies.

• Perceived opacity: without robust governance, family members may feel decisions are arbitrary, sowing resentment.

A Quick Example

A couple runs a profitable consulting firm. Profits fluctuate, and their children are at different life stages. A discretionary trust allows the trustee to distribute more income to a child in university one year, then shift to a child buying a home the next. If one family member starts a high-risk venture, the trustee can withhold distributions to reduce exposure.

The Key Differences That Actually Matter

1) Control Over Distributions

• Fixed: Predetermined. The trustee applies the rules—there’s little discretion.

• Discretionary: The trustee decides annual beneficiaries and amounts. Letters of wishes may guide, but they don’t bind.

Why it matters: Discretion lets you play offense (tax efficiency, targeted support) and defense (protect against spendthrift risks). Fixed rights give beneficiaries leverage and certainty.

2) Beneficiary Rights and Expectations

• Fixed: Beneficiaries can often compel the trustee to account for and pay their entitlement. They may have a proprietary interest in trust income as it arises.

• Discretionary: Beneficiaries have a right to be considered and to proper administration, not to a set payment.

Why it matters: In disputes, fixed beneficiaries can push harder. In divorces or creditor claims, fixed rights are easier to value and target.

3) Tax Patterns

• Fixed: Income and gains flow predictably according to fixed shares. Good for clean tax reporting.

• Discretionary: Tax outcomes depend on who receives distributions, when, and how the law treats undistributed income.

Why it matters: Mis-timed or mis-documented discretionary distributions can trigger top trustee tax rates. Conversely, well-managed discretionary distributions can materially reduce family-wide tax in some systems.

4) Asset Protection Profile

• Fixed: A beneficiary’s share may be reachable by creditors or factored in by family courts.

• Discretionary: No fixed entitlements means reduced targetability, though courts can still consider a beneficiary’s “expectation,” especially in family law.

My take: Discretionary trusts help, but they’re not a magic force field. Protection depends on timing, conduct, and local law. If you treat trust assets like your personal piggy bank, courts will treat them that way too.

5) Bankability and Commercial Partners

• Fixed: Banks and investors like units and fixed shares—they can value and secure them.

• Discretionary: Harder to pledge interests or raise capital from unrelated parties. Lenders may ask for personal guarantees or prefer a corporate borrower.

6) Flexibility vs. Certainty

• Fixed: Certainty aids planning and reduces family disputes over “who gets what.”

• Discretionary: Flexibility reduces the need to restructure as circumstances change but demands disciplined governance.

7) Administration and Compliance

• Fixed: Straightforward distribution mechanics; annual compliance is simpler.

• Discretionary: Requires timely, precise resolutions; potential streaming rules; minutes must show the trustee exercised real discretion.

8) Succession and Continuity

• Fixed: Entitlements carry on. If a key person dies, the trust keeps paying per the deed.

• Discretionary: The appointor role is crucial. If it passes to the wrong hands, the entire tone of the trust changes.

9) Dispute Risk

• Fixed: Disputes focus on interpretation and valuation, not fairness.

• Discretionary: Disputes often revolve around process—did the trustee act properly, consider relevant factors, and avoid bias?

10) Valuation and Exit

• Fixed: Units or fixed shares can be valued and traded; buy–sell provisions can be built in.

• Discretionary: Interests are inchoate; buyouts are messy unless you’ve pre-agreed a mechanism.

Tax Treatment in Major Jurisdictions (High-Level)

Tax rules vary, sometimes dramatically. Always model with local advice, but here’s what tends to differentiate discretionary and fixed structures in several common-law systems.

Australia (general overview)

• Discretionary trusts: Generally tax transparent. Income is taxed to beneficiaries when they’re “presently entitled.” If no one is entitled by year-end resolution, the trustee can be taxed at the top marginal rate (often around 47% including Medicare levy). Distributions to minors are penalized at special rates. Capital gains and franked dividends can often be “streamed” if the deed allows and resolutions are right. Family trust elections may be needed to access losses or franking credits and to avoid trust loss rules issues.

• Fixed trusts: Unit trusts and genuinely fixed trusts offer predictable flow-through. But “fixed trust” has a technical meaning—some unit trusts are not “fixed” for certain tax rules unless strict conditions are met. Getting that wrong can cost access to losses or streaming concessions.

Practical example: A trust earns $300,000, including a $100,000 capital gain with a 50% discount. In a discretionary trust, the trustee can stream the discounted gain to a beneficiary with capital losses and the franked dividends to someone who can use the franking credits, while distributing remaining ordinary income to lower-rate adults. In a fixed trust, the allocation follows the unit holdings regardless of personal tax positions.

United Kingdom (general overview)

• Discretionary trusts: Trustees often pay the “rate applicable to trusts” on income retained—45% on most income and 39.35% on dividends, with a small standard rate band. Distributions can carry a tax credit to beneficiaries. For inheritance tax (IHT), many discretionary trusts fall into the “relevant property” regime with potential 10-yearly charges (up to 6% above the nil-rate band) and exit charges.

• Interest in possession (IIP) fixed trusts: Income belongs to the life tenant and is taxed at their rates (trustees may pay basic rate with credit). IHT treatment differs—varies depending on creation date and changes over time.

What trips people up: UK discretionary trusts can be expensive if income is routinely retained. If your goal is to accumulate, model the drag. If your aim is to distribute, check whether beneficiaries’ personal allowances and dividend allowances can be used efficiently.

United States (general overview)

• Discretionary vs. fixed is less formal as a label; tax hinges on whether the trust is grantor vs. non-grantor, and whether it is simple or complex. A non-grantor trust is a separate taxpayer with very compressed brackets: it hits the top federal rate at a low level of undistributed income (in 2024, the 37% bracket kicks in around the mid-teens of thousands of dollars). Capital gains are usually taxed at the trust level unless distributed per the terms. The 3.8% Net Investment Income Tax may apply at low thresholds for trusts.

• Distributions carry out distributable net income (DNI) to beneficiaries. Discretionary distributions let trustees “spray” income among beneficiaries, but fiduciary duties and state law apply. Mandatory distribution provisions (more “fixed-like”) reduce flexibility but can streamline planning. Many family trusts are grantor trusts (income taxed to the grantor), offering planning flexibility without current beneficiary-level tax.

A practical pattern I see: High-income families use non-grantor, discretionary trusts in no-income-tax states to shift investment income; or grantor discretionary trusts to preserve flexibility while the grantor shoulders the tax bill, effectively making additional tax-paid gifts to the trust.

New Zealand (general overview)

• Most family trusts are discretionary. As of 2024, the trustee tax rate increased to 39%, which aligns with the top personal rate. Distributing income to beneficiaries on lower rates can still make sense, but compliance and documentation need to be tight. Fixed/unit trusts are used for investment syndicates; tax tends to be more straightforward due to proportional entitlements.

Canada (very broad brush)

• Inter vivos trusts typically pay tax at the top marginal rate for the province, with limited exceptions. Testamentary trusts can have graduated rates in certain cases. Income attribution, kiddie tax, and other anti-avoidance rules loom large. Fixed entitlements can create predictability but may trigger attribution or recognition events depending on how they’re drafted and funded.

Bottom line on tax: Discretion helps you optimize; fixed helps you avoid surprises. In either case, the wrong resolution or a misread “fixed” definition can be a very expensive mistake.

Where Each Trust Type Shines

Discretionary Trusts Are Usually Best For

• Family businesses where profits and needs fluctuate.

• Families wanting to support different children differently (education, housing deposits, special needs).

• Professionals in higher-risk fields seeking some separation from personal liabilities.

• Asset pools where income types differ (capital gains, franked dividends), and annual streaming could save real money.

Real-world vignette: I worked with a family with three adult children. One had a steady job; one ran a startup burning cash; one lived overseas. The trustee used the discretionary trust to support the startup founder during lean years, then shifted distributions to the overseas child in years with capital gains that could be matched to foreign tax credits. A fixed trust would have caused needless tax and tension.

Fixed Trusts Are Usually Best For

• Unrelated investors pooling money (property syndicates, private credit funds).

• Families wanting absolute clarity on long-term shares, especially in blended families where “equal means equal.”

• Projects needing bank financing where units or fixed entitlements can be pledged or valued easily.

• Succession plans that require a predictable cash flow to a spouse (income beneficiary) with capital preserved for children.

Vignette: Two siblings inherited a rental portfolio but didn’t want arguments about “who got the better property.” A unit trust holding company units achieved a clean 60/40 split. Each sibling could plan their personal tax and estate without second-guessing annual discretion.

Hybrid Trusts: A Word of Caution

Some structures blend features—like unit trusts with discretionary income distributions, or discretionary trusts with “preferred” units. They can solve specific problems but can also create complexity for tax and legal classification. In some jurisdictions, hybrids have been scrutinized or attacked where they muddle entitlement clarity. If you’re considering a hybrid, get a specialist to road-test it for your jurisdiction and goals.

Governance: How to Make Either Trust Work Well

Good governance beats clever drafting. What I’ve seen separate smooth-running trusts from headaches isn’t mystical—it’s discipline.

• Clear deed: Define powers, beneficiaries, streaming rights, appointor/protector roles, amendment powers, and vesting date with precision. Avoid vague classes that could inadvertently include people you never intended.

• Resolutions on time: For discretionary trusts, prepare and sign distribution resolutions before the relevant year-end deadline. Specify classes and income types correctly.

• Minutes that show real discretion: Record factors considered (needs, tax positions, past distributions, risk issues). Don’t cut-and-paste the same minute every year.

• Separate bank accounts and records: Never mingle trust funds with personal money. Keep a beneficiary ledger, including unpaid present entitlements or beneficiary loan accounts where relevant.

• Letters of wishes: Non-binding but helpful to guide trustees and reduce family friction. Update after major life events.

• Appointor succession plan: Decide who takes over. If the appointor becomes incapacitated or dies without a plan, control can drift somewhere you don’t want it to go.

• Reviews: Revisit the deed every few years or after tax law changes. Check vesting dates, which can sneak up on you.

Common Mistakes and How to Avoid Them

• Treating a discretionary trust as a personal checkbook: Paying personal expenses directly from trust accounts erodes asset protection and invites tax trouble. Use distributions or loans with proper documentation.

• Missing distribution deadlines: In many systems, if no beneficiary is made presently entitled, the trustee is taxed at the top rate. Put recurring reminders in a compliance calendar.

• Assuming a unit trust is automatically a “fixed trust” for tax: Some rules have strict “fixed” definitions. If you want fixed trust concessions (like carrying forward losses), get a formal opinion that your deed qualifies.

• Fettering discretion: Pre-agreeing to always pay X to Y can invalidate the discretionary nature. Use letters of wishes, not binding side agreements.

• Ignoring minors’ tax: Many countries penalize income distributed to children. Build that into your modeling.

• Overlooking the appointor: I’ve seen families obsess over trustee companies but forget who can replace them. The appointor holds the steering wheel—plan that succession carefully.

• Letting unpaid beneficiary balances linger: Unpaid present entitlements and beneficiary loans can trigger anti-avoidance rules or deemed dividend issues in some jurisdictions. Document terms and consider interest.

• Streaming without authority: To stream capital gains or franking credits, the deed must allow it, and resolutions must identify classes precisely. Guesswork leads to audits.

• Vesting date ambush: Some older trusts have vesting dates 70–80 years after settlement. As vesting approaches, options shrink. Note the date and plan years in advance.

• Resettlement risk through heavy amendments: Excessive deed changes or asset transfers can trigger tax events if they constitute a new trust. Make changes thoughtfully with advice.

A Practical Framework to Choose

Here’s the step-by-step approach I use with clients.

1) Clarify objectives

• Are you optimizing family-wide tax, or is certainty crucial?

• Are you more worried about creditor/divorce risks or about sibling fairness?

• Do you need to raise bank finance or bring in outside investors?

2) Map beneficiaries and time horizon

• Current and likely future beneficiaries (spouses, children, grandkids).

• Residence and tax profiles (domestic vs. overseas).

• Special needs, addiction risks, or spendthrift tendencies.

3) Understand the assets

• Active business vs. passive investments.

• Expected income types (salary flow-through? franked dividends? capital gains?).

• Liquidity needs and expected exits.

4) Model the tax

• Prepare alternative-year scenarios for fixed vs. discretionary allocations.

• Consider minors’ rules and overseas beneficiaries.

• Factor in trustee-level top rates if income may be retained.

5) Assess control and succession

• Who will be trustee and appointor? Who takes over and when?

• Do you need a protector or independent co-trustee to manage conflicts?

6) Consider financing and third parties

• Will a bank fund the structure comfortably?

• Do investors need fixed entitlements they can value and sell?

7) Choose jurisdiction and legal wrap

• Which country/state law best fits your goals and beneficiaries’ locations?

• Do you need a corporate trustee for liability insulation and continuity?

8) Draft carefully

• Bake in streaming powers if useful.

• Define beneficiaries with enough breadth to adapt, but not so broad that you invite problems.

• Include clear amendment and appointor provisions, and a realistic vesting date.

9) Set up administration

• Accounting systems and document templates.

• Annual calendars for resolutions, tax filings, and reviews.

• Letters of wishes and a family charter to align expectations.

10) Revisit after life events

• Births, deaths, marriages, divorces, migrations, business sales, and law changes are triggers for a review.

Illustrative Scenarios

The Professional at Risk

A surgeon with high malpractice exposure wants to ring-fence investments for their children. A discretionary trust adds a layer of separation, especially if distributions can be delayed or redirected during litigation risks. Strong governance and independent elements (corporate trustee, protector) strengthen the protective posture.

The Blended Family

A parent wants to provide lifetime income to a new spouse but preserve capital for children from a previous marriage. A fixed interest-in-possession trust or a unitized structure can guarantee income to the spouse and capital to children later, reducing fights and surprises.

The Siblings in Property

Three siblings buy a small commercial building. They opt for a unit trust with a detailed unitholders’ agreement: rules for capital calls, transfers, valuation, and dispute resolution. Because distributions are fixed by units, personal squabbles don’t derail the investment.

The Special Needs Beneficiary

A discretionary trust with tailored guidelines (letter of wishes) allows support without giving the beneficiary direct control or jeopardizing means-tested benefits. A co-trustee experienced in disability services is appointed to ensure decisions are consistent and compassionate.

Documentation Essentials for Discretionary Trusts

• Distribution resolutions: Draft before year-end; specify beneficiaries and income types; ensure the deed authorizes the allocation.

• Minutes evidencing consideration: Record the decision-making process—needs, tax impacts, risk factors.

• Beneficiary records: Maintain ledgers of entitlements, loans, and payments; reconcile annually.

• Letters of wishes: Update every few years; cover priorities (education, housing, health), red flags (addiction, creditor issues), and fairness principles.

• Appointor/protector documentation: Keep succession plans formal and accessible; avoid conflicting instructions in wills.

Documentation Essentials for Fixed Trusts

• Unitholder agreements: Include pre-emptive rights, valuation mechanisms, drag/tag rights, and event-of-default clauses.

• Distribution mechanics: Set payment timelines and procedures.

• Capital management policy: How and when to make capital calls, reinvest vs. distribute, and redemption terms.

• Banking and security: Spell out how units can be pledged and what happens if a unitholder defaults.

Myths to Retire

• “A discretionary trust makes assets untouchable.” No structure is bulletproof. Courts can consider your control and behavior, and family law courts often look at the reality of how a family uses assets.

• “A fixed trust is inflexible forever.” You can build in amendment powers, redemption rights, or buy–sell options. It’s rigid by design but not stone.

• “Unit trusts are always tax-transparent and ‘fixed.’” Some tax rules use a stricter definition of “fixed.” Don’t assume; confirm.

• “Discretionary trusts are only for the wealthy.” Flexibility matters for many families, not just the ultra-high-net-worth. A modest trust can solve real-world issues—uneven incomes, special needs, or timing of gains.

Costs and Practicalities

• Setup costs: Expect legal drafting, corporate trustee setup (if used), and advice fees. Discretionary deeds with robust streaming powers and appointor provisions typically cost more than basic templates, but templates often cost more later.

• Ongoing costs: Accounting, tax returns, valuations, and legal check-ins. Discretionary trusts tend to have higher annual governance costs due to resolutions and streaming mechanics.

• Insurance: Trustees should consider professional indemnity or trustee liability insurance. A corporate trustee helps ring-fence personal liability.

From experience, the cost difference between a “cheap” and a “thoughtful” setup is minor compared to the cost of fixing mistakes—particularly with streaming, vesting, and trustee replacement powers.

Red Flags That Say “Get Advice Now”

• You’re unsure who the appointor is or how that role passes on.

• The trust is within five years of vesting and holds valuable assets.

• The trustee has made distributions to minors or overseas beneficiaries without advice.

• Your unit trust needs to claim losses or do a restructure and you’re assuming it’s “fixed.”

• A family member is divorcing, and the trust has a history of paying their expenses.

• You’re contemplating a major amendment that could be a resettlement.

Shortlist: Choosing in One Page

Pick a discretionary trust if:

• Your top priorities are flexibility, tax efficiency across a family, and responsive support for beneficiaries with different needs.

• You’re comfortable with more administration and governance.

• Asset protection is a material concern, and you’re prepared to run the trust properly.

Pick a fixed trust if:

• You need certainty, bankability, or investor-friendly proportional rights.

• You want clear entitlements that reduce disputes and simplify exits.

• You can accept less adaptability in exchange for clean rules.

Final Thoughts

The “right” trust isn’t a product; it’s a governance choice. Discretionary trusts reward attentiveness and discipline with flexibility and risk management. Fixed trusts reward clarity with peace of mind and cleaner third-party relationships. If you start with your objectives, map the people and assets involved, and then draft with care, either tool can serve you exceptionally well.

If I could leave you with one piece of practical advice: write down how you want decisions made, by whom, and why. Whether that’s in a unitholders’ agreement, a letter of wishes, or trustee minutes, clarity of intent turns a legal structure into a legacy that actually works.