The Davis Tax Committee proposes radical overhaul of trust taxation
27 July 2015
Posted by: Author: BDO South Africa
Author: BDO South Africa
The Davis Tax Committee ('the DTC') released its First Report on Estate Duty. The DTC decided in favour of a modified estate duty and against the introduction of a Capital Transfer Tax. The DTC recommends that the estate duty exemption that currently applies to inheritances by surviving spouses be removed or that it be limited to a specific amount. This will result in earlier collection of estate duty. As the contribution of estate duty to the total tax take is actually marginal, this change will arguably have a minute effect on tax collections, but will result in increases administration and estate planning costs.
The DTC also addressed trust taxation. To curb tax avoidance it proposes that South African trusts be taxed on income distributed to beneficiaries. Trust income will then be subject to tax at the current trust rate of 41% and capital gains at 27.31%. Under current legislation, a donor is taxed on donations, settlements and dispositions to a trust, and not the trust. These rules also apply to capital gains. As the marginal tax rate of the donor coulde be lower than the trust's rate, the fiscus could be losing money. Some relief is proposed for special trusts used for the benefit of disabled persons or testamentary trusts for the benefit of relatives where the youngest is a minor on the last day of the year of assessment. The DTC also proposes to expand this relief to include ceratin trusts used in Broad Based Black Economic Empowerment Structures.
The DTC recommends against pricing adjustments in respect of financial assistance or interest-free loans advanced to trusts. The DTC also does not favour affording taxpayers a period to dissolve existing trust arrangements on a tax-neutral basis as dissolution of trusts is governed by the trust deed, irrespective of tax implications. This is partly so as it would be inequitable to allow a trust to retain accumulated estate duty savings and also as such an arrangement would add to complexity.
The DTC proposes that income or capital gains accruing to non-resident trusts resulting from donations, settlements or dispositions by a South African resident remain taxable in the hands of the donor. Due to the difficulties of compartmentalising income distributed to a beneficiary, the DTC recommends that distributions by foreign trusts be taxed as income and not capital gains. The DTC also recommends that the criminal charges can be brought against taxpayers who fail to disclose direct or indirect interests in foreign trusts.
The DTC is of the view that taxpayers should only be allowed to use trusts for commercial reasons and not for for estate duty planning. Although taxpayers will be allowed to continue to use these trusts they will, on sale of the assets by the trust, be subject to a higher tax rate. This will reduce the estate duty foregone. As these suggested changes would have far-reaching implications the proposed implementation date is 1 March 2016. This would allow time for extensive consultation to identify and address relevant issues.
This article first appeared on bdo.co.za.