Phia van der Spuy. File Image: IOL
Phia van der Spuy. File Image: IOL

A look at the use of trusts for business and trading

By Opinion Time of article published May 17, 2021

Share this article:

Bankruptcies in South Africa averaged 229 companies a month from 1980 until 2020. In August 2000, an all-time high of 511 companies declared bankruptcy, compared to the record low of 63 companies in May of 1988. Projected bankruptcies for 2021 is 220 companies a month and 240 companies a month for 2022. It is a known fact that more than 90% of business owners close their doors within five to seven years of opening them. Up to 90% of these business owners were likely stripped of their personal assets, resulting from sureties and guarantees that they signed as business owners. This could have been avoided had the business owners set up trusts to protect their assets from the South African Revenue Service (SARS), the banks, and other creditors.

“A newer type of trust”

A trust which carries on business activities is often referred to as a business trust or ‘trading trust’. Similar to any other type of trust, a business trust can be described in layman’s terms as a legal arrangement or instrument which is created to hold and manage assets for the benefit of certain individuals and/or entities – its beneficiaries. A trust is not regarded as an independent entity or juristic person that can be owned, sold, or transferred, as is the case with a company or a close corporation, either under the common law, or under the Trust Property Control Act. A business trust was referred to by the court in the Vrystaat Mielies case of 2004 as “a newer type of trust”.

Without legal personality a trust cannot own property. Any property held in trust is held by the trustees in their capacity as trustees. Section 12 of the Trust Property Control Act requires trust property to be held separately from the trustees’ personal estates.

An alternative to a company

The introduction of the Companies Act of 2008 brought about a fundamental shift to the left in company law. For example, Section 76 states that a director must act with care, skill and diligence. Section 218(2) states that any person who contravenes any provision of the Act is liable to any other person for any loss or damage suffered by that person as a result of that contravention. Section 20(9) states that if there is an unreasonably excessive abuse of the company as a separate entity, the court may declare the company to be deemed not to be a juristic person in respect of any right, obligation or liability of the company. Such a declaration may leave assets at risk. The court even held in the Stephen Malcolm Gore case of 2013 that the Section 20(9) remedy should not be regarded as exceptional, or “drastic” – therefore totally acceptable. It may therefore be prudent to consider other types of business forms.

A trading or business trust can therefore be structured to resemble a company or close corporation, whereby trustees can be compared to the directors of a company and beneficiaries can have rights similar to shareholders. If structured correctly, a trading trust can provide a limited-liability form of trading without the complexities or expense inherent in trading through companies. These trusts are inter vivos trusts, formed to ensure the continued operation of a business that has a profit incentive.

Trusts can be used for trading

A trading trust can be used as an alternative to business structures such as a company, close corporation, partnership or sole proprietorship. It may be a good strategy to let the trust own the assets, which are leased to an operating company, to protect the assets from operating risks.

The Magnum Financial Holdings (in liquidation) v Summerly case of 1984 confirmed that a trust can be used for trading purposes by acquiring assets and incurring debt and can therefore be sequestrated. Trust creditors can therefore look to the trust’s assets for settlement of their claims and not to the founder, trustees or beneficiaries. Trustees will only be liable for trust debt if they have personally bound themselves to be responsible for trust debt or if they have acted in a way to be held personally liable.

Lack of regulation

The main statute that governs South African trust law is the Trust Property Control Act 57 of 1988, which only regulates certain administrative aspects of trusts. In 1987, the South African Law Commission recommended that the law of trusts should not be codified (arranged into a systematic code) and that only certain administrative aspects relating to trusts should be regulated.

Although the Act does regulate certain aspects of trusts, it gives no guidance as to trustees’ powers, which must derive from the trust deed itself. As a result, trust deeds may contain very different provisions, with only a few court cases as guidance. Although most trust deeds have certain standard clauses, the trust deed is a mere contract in which the founder can express his or her unique wishes and terms.

Trading trusts also need not be audited, except when required by the Master of the High Court or the trust deed. Although this may make a trading trust cheaper and easier to run than other business forms, this lack of oversight may be detrimental to an outsider contracting with the trust.

Phia van der Spuy is a Chartered Accountant with a Masters degree in tax and a registered Fiduciary Practitioner of South Africa, a Master Tax Practitioner (SA), a Trust and Estate Practitioner and the founder of Trusteeze, the provider of a digital trust solution.

PERSONAL FINANCE

Share this article: