The type of trust that you choose to set up depends primarily on the objectives but also on the type of assets you intend to transfer to the trust.
By Gareth Collier - Crue Invest (Pty) Ltd (Courtesy: Moneyweb.com)
Trusts come in many shapes and forms, depending on your estate planning needs. The type of trust that you choose to set up depends primarily on the objectives but also on the type of assets you intend to transfer to the trust, the age and nature of your beneficiaries, and your anticipated time horizon, among other considerations.
In this article, we explore five scenarios in which a trust can be used effectively as an estate planning tool.
1. Protecting the inheritance of minor children
In terms of South African law, children under the age of seven have no contractual capacity, whereas those between the ages of seven and 18 (referred to as minors) have limited contractual capacity and, in most instances, require the consent or assistance of a parent or guardian.
In the context of bequeathing assets to minors, this means that children under the age of 18 are not able to inherit directly, which in turn, can scupper the plans of the testator. This is because any funds that are bequeathed directly to a minor, such as where a minor is nominated as a beneficiary of a life insurance policy, will be administered by the state-run Guardian’s Fund on behalf of the child until they reach 18. All funds held in the Guardian’s Fund are invested in the Public Investment Corporation, which is an asset management company wholly owned by the government.
From a practical perspective, the child’s guardian would need to claim from the fund to cover costs such as school and university fees, clothes, medical aid premiums and maintenance, although claims are limited to R250 000 from the invested capital plus interest earned on the money and must be approved by the Master.
An effective way of circumventing this scenario is to set up a testamentary trust in terms of your will and bequeath those assets intended for your minor children to the trust in the event of your passing. The trust will only come into formation in the event of your death, at which point those earmarked assets will be transferred into the trust and administered by your nominated trustees for the benefit of your minor children.
2. Providing for those with mental or physical disabilities
If set up correctly and in accordance with the requisite criteria, a trust can be used effectively to provide for those with mental or physical disabilities who, as a result of their disability, are unable to manage their own affairs.
In terms of Section 6B(1) of the Income Tax Act, an estate planner can set up what is known as a special trust Type A to house those assets intended for a disabled beneficiary, although it is important that the beneficiary’s disability meets the qualifying criteria to ensure that the trust can benefit from the favourable tax dispensation available to these types of trust.
Assuming that the trust qualifies as a special trust, it will be taxed as a natural person at rates ranging from 18% to 45%. In addition, the annual capital gain exclusion of R40 000 is available to this type of trust, as well as the primary residence exclusion of R2 million of the capital gain on disposal for capital gains tax purposes.
A special trust Type A can be set up in the form of a living trust, in which case the assets intended for the disabled beneficiary will be transferred to the trust during the lifetime of the trust founder, or in the form of a testamentary trust in which case it will only come into formation on the death of the testator – keeping in mind that the type of trust instrument used will depend on the unique circumstances of the estate planner.
3. Reducing your estate duty liability
While investing in growth assets is vital for wealth creation, it is important to bear in mind that these assets can increase the estate duty liability in one’s deceased estate, which in turn, can erode the value of the inheritance ultimately received by one’s heirs.
Remember, estate duty is levied at 20% on the dutiable value of a deceased estate that does not exceed R30 million and at 25% on the dutiable amount exceeding R30 million. As such, depending on the value of your estate, your marital status (with the Section 4A abatement in mind) and the type of assets, among other considerations, a living trust can be used to reduce the tax liability in your deceased estate.
This can be achieved by transferring the growth asset either by way of sale or donation to an inter vivos trust, which has the effect of pegging the value of the asset in your personal estate. All subsequent growth in the value of the asset will then take place in the trust, meaning that estate duty and executor’s fees will only be calculated on the value of the asset at the time it was transferred to the trust.
Further, because a trust never dies, those assets will not form part of the beneficiaries’ respective estates going forward and, as such, can continue to avoid estate duty in perpetuity.
4. Protecting your assets from creditors
A trust can also be used strategically to safeguard your personal assets from the potential risks associated with business activities and/or insolvency. By setting up a living trust, you can transfer specific assets into the trust with the primary focus being on preserving the assets and ensuring that they are managed for the benefit of your nominated beneficiaries.
This strategy can create a legal separation between your personal wealth and the assets held in trust, thereby shielding your estate from potential creditors or insolvency proceedings, although it is imperative that the trust meets the criteria for validity. Remember, our courts have the authority to set aside a trust if it is deemed to be a sham trust, such as where the trust founder intended to create the perception that a trust had been set up whereas, in fact, they had never relinquished control of the assets.
Courts also have the authority to pierce the veneer of the trust in circumstances where it is believed that the trust was set up for the purpose of defrauding creditors. As such, while living trusts can add a layer of protection, it is always important to understand the risks involved and to seek advice from a fiduciary expert when setting up your trust.
5. Securing growth assets for the benefit of future generations
A trust can be used effectively to house and preserve assets, such as a family farm or a holiday home, that the trust founder would like to pass from generation to generation. In such circumstances, the trust serves as a valuable succession planning tool by ensuring that multiple beneficiaries across successive generations can enjoy the asset without fear of it being alienated or sold.
In order to achieve this, the trust founder would need to set up an inter vivos trust and sell the property to the trust. The loan account would reflect in the trust’s accounts and form part of the trust founder’s deceased estate. As a growth asset, the value of the property held in trust is likely to continue to grow over time, although the value of the asset appears in the deceased’s estate at the selling price. As a result, all growth in the value of the asset will take place in the trust and will not attract estate duty in the trust founder’s deceased estate.
Through your trust deed, you can set out whether the trust is a vesting or discretionary one, which beneficiaries may receive income from the trust and which of them may receive capital. In circumstances where there are multiple beneficiaries, setting up a trust solves the problem of having to divide up an asset between the various beneficiaries and provides a vehicle through which the home or farm can be jointly owned by all the nominated beneficiaries.
At Harwell & Plant, we can help guide you through these and other legal issues. Reach out for a risk-free consultation.
Paul B. Plant, Esq., Harwell & Plant
PO Box 399, Lawrenceburg, TN, 38464
Call: 931-762-7528 | Text: 931-340-9987
Open: Monday – Thursday 9AM – 5PM | Friday 9AM – 3PM