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Is a trust still effective?

May 15 2017 06:00


Recent changes to the income tax act have important consequences for anyone who transferred assets into a trust and may require some reconsideration.

In many instances a trust has been an effective estate planning vehicle to reduce an investor’s personal estate and the estate duty by transferring assets to a trust. It was also an attractive vehicle to peg the value of an asset in a trust, on date of transfer, with all future growth accumulating in the trust outside of the estate, minimising the estate duty on any growth of the asset. There are also other benefits such as protection of assets from creditors and beneficiaries, ease of administration upon death and estate planning for future generations.

However recent law changes announced last year in the Taxation Laws Amendment act, 2016 could have important consequences for anyone who transferred assets to a trust without being paid for the asset.

SARS now views this practice of not charging interest on such loan accounts equivalent to donations and lenders are now required to charge interest of at least the repo rate plus 1%, (currently 8%) or pay the donations tax. These Section 7C amendments have been introduced to prevent trusts from being used to avoid or reduce estate duty and donations tax and will be effective from 1 March 2017. The change will also apply retrospectively to loans made prior to this date. However the actual donation will be deemed to have taken place on the last day of any given tax year, so any donations in the 2017/2018 tax year will be deemed to be donated 28 February 2018 and any donations tax will be payable 31 March 2018.

This does not apply to all trusts but would typically apply to family trusts (discretionary inter vivos trusts) set up during the investor’s lifetime.

It was common practice to sell assets to a trust on an interest free loan basis, as a result of the trust not having liquidity or because the seller did not want to pay tax on the interest. The loan would then effectively be written off by the annual donations allowance of R100,000 per annum until the trust owned the asset in its entirety. The sale of the asset on this basis avoided both donations and income tax. Donations tax is calculated at a flat 20% of the value of the asset above your allowable donation of R100,000 per annum payable by the donator. Loans of R1,250,000 or less will not attract donations tax, as an 8% interest rate applied to R1,250,000 is equivalent to the annual donations allowance of R100,000. That is assuming the donator has not already donated more than R100,000 in that tax year. Any interest on such loans above this will attract a donations tax at a rate of 20% of that value if no transactional payment of the interest to the lender occurs.

One should also consider the tax implications for a trust which have increased substantially over the years, taxed at a flat tax rate of 45% for any income earned and an effective 36% capital gains tax rate. Individual rates are substantially more attractive with income taxed according to the individual tax tables and a maximum 18% effective capital gains tax.

It is however worth noting that endowments can offer some relief for the taxation of trusts in terms of income and CGT as long as the beneficiaries are all natural persons.

Although there are options to counter the consequences of section 7C there is no standard solution and each client’s circumstances will need to be considered in order to determine suitability. Investors should consider all the implications of an existing or new trust structure in light of these tax changes. If a trust was created simply to save taxes it may not serve that purpose any longer. Before making any decisions seek advice from a fiduciary/tax specialist to ensure that all tax consequences of these changes as well as any alterations to any existing trust structures are clearly understood.

By Brian Butchart, CFP® professional and Managing Director of Brenthurst Wealth.

Brenthurst Wealth Management has a team of highly-qualified advisors who provide clients with sound and impartial investment advice. They provide advice on an individual basis and tailor investment strategies for each client separately based on their specific circumstances. Brenthurst Wealth is registered at the FPI as an accredited professional business practice. Find out more about their services.

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