Vital information if you have a trust
Do you have a trust? Do you use this trust as a planning tool for you and your family?
If your answer is yes, you might want to read this more carefully.
In terms of Section 7C of The Income Tax Act No.58 of 1962, the interest free portion of a loan provided to a trust is deemed to be a donation and thus subject to 20% donations tax for the donor.
This relatively new provision came into effect on 1 March 2018 stating that any natural person who is connected to a trust and who gives a loan to a trust and does not charge a market related interest on that loan, will be deemed to have donated that interest free portion of the loan to the trust, thus triggering a donations tax liability.
For example, on 5 July 2018 I give an interest free loan amounting to R2,5 million to a trust, of which I am a beneficiary. I do not charge any interest on this loan to the trust.
Assume the market related interest rate is 7,5% per annum as per SARS interest rate tables.
The interest free portion of this loan amounts to R187 500 (R2,5 million x 7,5%) per annum.
Thus, it is deemed that I donate R187 500 to the trust each year provided that the capital portion of the loan remains the same.
My annual general exemption from donations tax is R100 000. The amount that is subject to donations tax is therefore R87 500.
I will be liable for 20% donations tax on the R87 500, amounting to a tax liability of R17 500 per annum.
The intention behind this legislation was for anti-avoidance of taxpayers reducing their estate duty liability, by granting loans to trusts.
The legislation is quite wide to include the words “directly or indirectly”, which means that if a connected person to a trust in any manner or form, whether directly or indirectly gives a loan to a trust, there will be donations tax consequences, and there is a dividend tax exposure to the company as a result of the deemed dividend rules.
Thus for example, if a beneficiary of a trust is also a 35% shareholder of a company that is not connected to the trust, and that company at the instance of that beneficiary provides a loan to the trust, then it is deemed that the beneficiary made a loan to the trust and any interest free portion will be a donation made by beneficiary for donations tax consequences.
Remember that there are general and specific exemptions from donations tax. The annual general exemption amounts to R100 000 for a natural person and R10 000 for a company.
Specific exemptions from the 7C provision is if the trust is a qualifying Public Benefit Organisation or if the trust is a vesting trust or a special trust.
Exempted from this provision is also if a taxpayer grants a loan to a trust to wholly or partly fund the acquisition of that taxpayer’s primary residence.
This provision has led to a plathea of restructuring arrangements where taxpayers try to get out of the trust structure with loan accounts to the trusts.
However, be aware of the SARS anti-avoidance arrangements that can deem any restructuring transactions to be void if such transactions are found to be done purely for the tax avoidance purposes.
As with all other planning transactions, it is important to consider all aspects of the transaction and whether or not it makes sound commercial sense. Remember, don’t ever let the tax tail wag the dog.
So, next time you wish to use your trust as a tax planning tool, think twice before this provision sends you off to sail the seven seas into an unwanted tax debt.
Jade Els and Willem Oberholzer are Tax advisers for Probity Advisory.