Trusts are relevant today if they are used correctly. An important consideration is the stage in your life that you create a trust. If you form a trust as part of your estate plan and create wealth in the trust instead of in your personal name, you can benefit from the trust during your lifetime.
Separate your assets
The number-one rule of wealth preservation is to protect your assets. If you have your own business, sizeable investments and/or other assets, you might want to pay attention.
One of the most important benefits of a trust is that it will help you to separate your assets from your property investment debt, your business interests and/or other financial risks.
Assets owned by a trust do not form part of an insolvent estate, and therefore cannot be attached by your creditors.
Section 12 of the Trust Property Control Act states that “trust property shall not form part of the personal estate of the trustee except in so far as he or she as a trust beneficiary is entitled to trust property”. This would be the case with a discretionary trust, where beneficiaries become entitled to trust property when the trustees vest this property in such beneficiaries.
However, this should not be seen as a form of blanket protection, because there are a number of sections in the Insolvency Act that allow a trustee of an insolvent estate to claw back assets into the insolvent estate.
However, if assets were transferred to the trust while the estate was solvent, it is difficult for creditors to set aside the trust’s actions.
Why is separation important?
The risks that business owners face include claims for financial damages from creditors, employees, tenants, customers and even competitors.
Even though you might not be directly responsible for the incident that led to the claim against your business or property investment, your personal assets could be used to settle the claim. This principle not only applies to business owners, but also to anyone with a relatively large asset base who is exposed to any financial risk or liability, such as claims, debt and sureties.
With today’s high rates of divorce and relationship break-ups, a trust may also protect your assets from claims arising from matrimonial or relationship disputes.
Mind how you transfer assets
The manner in which assets are transferred is relevant when it comes to the extent of their protection.
For example, if you transfer an asset on loan account, the amount of such loan account will remain an asset in your estate until the trust fully repays the loan. The implication is that the loan will not be protected from creditors. The loan is considered to be an asset in your own hands, and it can be attached.
Creditors can - if your loan is repayable on demand, according to your loan agreement - demand repayment from the trust, and if the trust has no available cash, can then liquidate assets in the trust.
Over time, as the loan decreases - provided there are repayments - and the asset value increases in the trust, the benefit of asset protection will be established.
The Davis Tax Committee, in its Second Interim Report, recommends the inclusion of all trust assets in the estate of the founder, due to the founder’s “control” over the trust. This is, however, a far-fetched proposal.
There are new tax consequences if you create an interest-free/soft loan account, instead of charging the official interest rate (the repo rate, currently 6.75%, plus 1%) on such loans. Donations tax is payable on interest foregone below the official interest rate. The effect is that the South African Revenue Service (Sars) assumes that trust assets grow by at least the official interest rate annually.
You will now have to consider carefully which assets you want to transfer to a trust, because Sars introduced this as a measure to access the estate duty it would have lost on growth that took place in the trust. During your life, you will have to make a cash payment of this tax annually. Normally, estate duty is paid on such growth only on death.
Proper financial planning will involve assets being acquired by the trust from the outset, rather than being purchased in your name and transferred to the trust. This is why it is important to set up a trust before large assets are accumulated.
Phia van der Spuy is a registered Fiduciary Practitioner of South Africa, a Master Tax Practitioner (SA) and the founder of Trusteeze, which specialises in trust administration.