JOHANNESBURG - Constant legislative changes affecting the taxation of trusts have raised questions about the future viability of the structures which are in place.
Many ask if the time has not come to rather unwind them.
Trust specialists say there are very obvious reasons for registering and keeping a trust. If the main reason has been to reduce tax liabilities it may be a good time to rethink its future.
Cheryl Howard, MD at Talaria Wealth, says the most obvious reasons for registering a trust is to protect ones assets, to limit liability from creditors and to ensure “multi-generational planning” for family owned businesses.
Another important reason is to consolidate assets within the trust. This enables trustees to have greater investment diversity, especially with share portfolio’s. Returns are paid quarterly, and the assets grow in the trust rather than having it distributed to each individual beneficiary.
However, trusts are the highest taxed entities with a fixed effective capital gains tax rate of 36%. They are costly to administer. It can cost up to R10,000 for the initial set-up of the structure and another R50,000 per annum for trustee fees, tax compliance and the preparation of financial statements. In the case of a complex trust the tax return can be more than 30 pages.
Howard says due to the cost it only becomes worthwhile to have a trust if there are assets worth around R10m to R15m in the trust. She does warn about making the quantum the main deciding factor to keep or unwind the trust.
“One has to ask why the trust was set up in the first place. Do you have a special needs child, or are you setting up a trust for your grandchildren if you are concerned that your children will not be able to provide sufficiently.”
Shohana Mohan, member of the personal tax work group at the South African Institute of Tax Professionals, says the main concerns about the future of trusts was fueled by the change in the Income Tax Act which became effective in March this year.
In terms of the amendment a person who makes a loan to the trust will have to charge interest on the loan. If there is no interest charged then the deemed interest foregone on the loan is seen as a donation to the trust. The donation will be taxed at 20% per annum.
Mohan says if the loan to the trust is R1.1m, the interest charge will amount to R93,500 (with an interest rate of 8.5%). In terms of the act donations of up to R100,000 per annum is tax free. If the interest is set off against the annual R100,000 donations tax exemption, then there will be no tax charge. However, if the loan exceeds R1.1m there may well be a tax charge.
Mohan says there are certain carve-outs in the legislation, for instance if the loan to the trust was used to buy a primary residence for the lender or his spouse and they were still living in it.
She says it is important to look at the nature of the assets and to determine the cost if interest is charged on the loan account used to purchase the assets.
One consideration is to make a calculation whether it would not be more viable to transfer the asset out of the trust, and to pay the transfer duty instead of having to pay interest on the loan, or donations tax of 20% on the deemed interest on the loan.
“There are no hard and fast rules when deciding whether to unwind a trust or to keep it. The facts and circumstances surrounding the initial decision must be carefully considered before making drastic decisions.” Howard notes that if the purpose for which the trust was set up no longer exists, it may be time to reconsider is viability.
She says if the trust was set up as a family trust, and the children are emigrating to especially the US, it may be time to unwind the trust.
The US tax authority looks through the structure and treats everything, regardless of whether it is income or capital, as income and tax it quite punitively. Australian tax authorities are considering a similar treatment of trusts.
Once the trustees have decided to terminate the trust, the trustees must draft a resolution, sell the assets or award it to the beneficiaries in proportion to their discretion, or in terms of the vesting rights. This will trigger capital gains tax.
Any tax liabilities must be settled and bank accounts must be closed. The Master of the High Court must be advised of the termination of the trust.