Are trusts still relevant?
25 March 2014
Posted by: Author: Bernard Sacks
During the 2013
National Budget Speech Minister of Finance, Pravin Gordhan ended years of
speculation and forecasting about SARS regarding trusts as tax avoidance
vehicles when he announced that the current system for the taxation of trusts
was to be reviewed and refined in order to prevent an erosion of the tax base.
Although the Budget
Speech did not provide exact details of the proposed changes, the main proposal
was that the long established common law flow-through principle would be
In terms of the
flow-through principle, income flowing in and out of a trust was regarded as
having retained its nature. For example, interest earned by a trust could be
distributed as interest to the beneficiary, and likewise for other types of
income such as rental, dividends etc. Based on the Budget Speech comments this
would come to an end in a manner that treats all income as that of the trust
and that any income distributed would be taxed in the hands of the beneficiary
as taxable income from the trust despite the underlying make-up of said income.
The Minister made
special mention of Trading Trusts, and indicted that these will be regarded as
‘all trusts that conduct a trade or where the beneficial ownership can be
freely transferred’. This may be some indication that Trading Trusts may be
subject to more changes than would otherwise be the case.
The planned changes
have not yet been implemented - to give National Treasury time to evaluate and
consider the proposals in more detail and take into consideration the views of
interested parties. The matter might also be referred to the Davis Commission
of Enquiry into the Tax Structure of South Africa (a commission chaired by
Judge D Davis).
The mention of
planned changes, albeit in the above paraphrased broad strokes, has elicited a
knee jerk reaction from various taxpayers and advisors; with comments
suggesting trusts will lose their relevance and should possibly be avoided and,
structures where trusts are prevalent should be undone by transferring assets
to companies or other holding vehicles.
Should this be the
main concern within a group of companies that contains trusts, it may well be
indicative that SARS is correct in wanting to tighten the reins on the taxation
of trusts as tax avoidance would seem to be the overriding consideration in the
make-up of those groups?
However, is that
not more a case of the tax tail wagging the business or financial dog? In our
view tax planning forms part of sound business and financial planning as tax is
a cost that needs to be factored in and reduced where legally possible to
increase returns. It should however never be the main or sole reason for
entering into any transaction, and similarly the use of a trust should also not
have as its sole or main reason the avoidance of tax.
Trusts are still
relevant – they must just be used for the purpose for which they were intended.
Where structures involve trusts as vehicles for asset protection, estate
planning (as opposed to estate duty planning) and financial planning we submit
trusts will remain relevant. The fact that trusts may have, or are providing
some tax benefit should have been the result rather than the reason for
establishing the structure.
For an entrepreneur planning to expand his business, build
wealth and create an asset base, the use of trusts as the wealth building
vehicle outside the actual business makes a lot of sense. An entrepreneur, more
often than not, must sign personal surety for business debts, may get involved
in business ventures that do not realise their initial potential or may be
subject to quality and warranty claims from customers for faulty workmanship on
parts and goods that were imported. The trust is a useful vehicle for
As the accumulation
of wealth begins, matters such as family dynamics, succession and wealth
distribution become the areas of focus. The problems are myriad – but the
solution need not be. A carefully structured trust provides the perfect vehicle
where the wealth generated by the business can be legally channelled so that
growth assets can be acquired and wealth accumulated in the trust.
These assets will
be protected from business creditors; the trust will continue to exist after
the death of the entrepreneur and, if administered correctly, would be able to
provide some form of maintenance for the remaining family regardless of their
own financial independence.
That being said the
administration and governance of trusts is becoming increasingly more
important, and persons forming trusts and their trustees should ensure good
governance in respect of trust assets and transactions at all times to avoid
the failure of the plan due to poor administration of the trust.
Are trusts still
relevant? They most definitely are, as long as they are used for proper
business and financial planning. They may not be relevant for tax avoidance –
but then again they never should have been.