With thanks to Tiny Carroll
The most basic definition of estate planning is – “getting your things in order”.
The need to undertake an estate planning exercise is frequently triggered by, a personal-life-event, such as a marriage, the birth of a child, or the death of a partner. On another occasion the need to review your estate plan can be triggered by a change in legislation.
For individuals who have transferred assets to a trust by way of an outstanding, interest free or low interest loan account, – such an estate planning moment has just occurred with the introduction of section 7C into the “deemed income provisions” also referred to as “the attribution rules” in the Income Tax Act.
How section 7C works
Section 7C deems the interest foregone because of a low-interest or no-interest loan to be a donation, to the trust subject to donations tax in the hands of the lender.
An estate planning exercise sometimes involves the sale of long-term growth assets such as an immovable property or a share portfolio, to a trust. The trust does not necessarily have the funds to pay for the property so the purchase price is left outstanding on loan account, due to the planner. By exchanging a long-term growth asset for an interest-free or low-interest loan account the value of the individual’s estate is “pegged” for estate duty purposes. SARS have, understandably, never been happy with the loss of estate duty occasioned by these arrangements and after several false starts, have come up with section 7C which came into effect on 1 March 2017. The section will apply to all loans which are in existence, or come into effect, on or after that date. Truly retrospective legislation
The value of the donation is an amount equal to the difference between the interest incurred by the trust and the interest that should have been incurred by the trust had interest been charged at the “official rate of interest” The “official rate of interest” is the rate used for determining fringe benefits tax in terms of the 7th schedule to the Income Tax Act and is currently 8%p.a.
Example 1
A sells an asset worth R10 million to the AAA FAMILY TRUST. The purchase price is left outstanding as an interest free loan. On the last day of the year of assessment the interest foregone by the trust will be R800 000.00 (R10 000 000.00 x 8%)
Calculation of donations tax
R800 000.00 (interest foregone)
– R100 000.00 (annual donations tax exclusion if it hasn’t been used elsewhere)
= R700 000 x 20% (donations tax rate)
=R140 000.00. The donations tax payable by A each year.
Example 2
B sells an asset worth R10 million to the BESTEVER FAMILY TRUST. The trust charges 6% interest on the outstanding loan account. On the last day of the year of assessment the interest foregone by the trust will be R200 000.00 (R10 000 000.00 x 2% (8%-6%)
Calculation of donations tax
R200 000.00 (interest foregone)
– R100 000.00 (annual donations tax exclusion if it hasn’t been used elsewhere)
= R100 000 x 20% (donations tax rate)
=R20 000.00.
The trust will however pay R270 000.00 (R600 000.00 x 45%) in income tax on the interest earned.
B will also have paid R490 909.00 in income tax on the R1 090 909 in income needed to pay the R600 000.00 in interest due to the trust.
Exclusions
The provisions of section 7C do not apply to amounts owing by all trusts. Loans owing by the following trusts will not be affected;
- A trust approved as a Public Benefit Organisation.
- The loan was provided in return for a vested interest in the trust, and all assets and income vest in the beneficiaries of the trust.
- A trust Which is a” paragraph (a) special trust” i.e. a trust established for the sole purpose of benefiting certain disabled persons.
- Where the loan was used in part or in full for the acquisition of the lender’s or the lender’s spouse’s primary residence.
- Certain non-arms-length transactions taxed in terms of section 31 of the act.
- Certain qualifying Sharia compliant financing.
Conclusion
If you are one of the many estate owners who have transferred assets into a trust on loan account – this may be just the time to review your estate planning. This review must include an assessment of” your trust”. The assessment should include a legal audit of your trust deed, an assessment of how the trustees perform their duties and the financial viability of the trust structure in your estate plan.
We would like to assist you with your trust and estate planning.
Please feel free to contact us at info@ternary.co.za or call for an appointment on 021 913 8865.
