Off The Beaten Track

Trust Funds part 2:How to grow your trust fund

old paper roll inside treasure chest on wooden background

The idea of setting up a trust seems simple enough – until one has to transfer assets to it for its beneficiaries.

Trustees must be given instructions or guidelines relating to the management of the assets.

And they must know what their rights and restrictions are, as well as the tax implications of the decisions they make, because this will affect the beneficiaries.

How to grow the assets held in the trust

Once the founder has registered the trust, assets need to be transferred into it.

According to the Financial Planning Institute of Southern Africa, the founder of a trust can increase assets held by the trust in three ways.

  • The first is through donations made to the trust. These can be both tangible and intangible, such as a house or cash or shares.

Individual taxpayers can donate assets of up to R100,000 in one tax year, which are exempt from donations tax.

Any donations above R100,000 are taxed at 20%, and this money has to be paid to the South African Revenue Service within 60 days of making the donation.

  • The second way to transfer assets is by “selling” them to the trust. The trust will then “buy” the assets on a loan account.

The conditions of the loan are such that there is no interest payable and no repayment terms are stipulated.

When it comes to increasing assets in the trust, the founder must be aware of the tax risks, and must adhere to the terms of the Income Tax Act.

Let’s use an example to illustrate the point: Mr Witbooi, the founder of a trust, sells an asset worth R200,000 to the trust.

But the trust doesn’t have the funds to pay for the asset, so Witbooi lends it R200,000 to buy the asset. The loan is interest-free, and Witbooi doesn’t stipulate any payment terms.

In this way, the trust is able to acquire assets without attracting any donations tax even though, in essence, the asset is a donation.

On the death of the founder, the assets transferred to the trust through a loan are not listed as part of the founder’s estate and are therefore exempt from estate-duty tax as well.

This form of asset transfer is being reviewed, because some people sell assets to trusts to avoid paying estate duty and donations tax.

The Treasury has proposed that assets transferred to a trust by using a loan must be included in the founder’s estate, and that interest-free loans to trusts should be categorised as donations.

However, there are cases where the trust has built up sufficient capital and is able to buy assets without a loan. In these instances, trustees should be particularly careful to ensure that they adhere to the terms of the trust deed.

So, the creator of the trust can restrict or limit the types of assets it can purchase – by, for example, forbidding the trustees to invest in shares.

  • Third, the founder can bequeath assets to the trust. For example, parents can create a family trust and leave their assets to the trust. These assets will still be taxed as part of the parents’ estate before being transferred to the family trust.

Tax implications

The process of transferring assets to a trust can get complex, as there are several tax implications to consider.

When it comes to increasing assets in the trust, the founder must be aware of the tax risks, and must adhere to the terms of the Income Tax Act.

If the trust’s founder sets up and keeps control of a trust, the trustees appointed to take over on the founder’s death may not understand the full scope of their duties.

They may also not be aware of the tax implications that come with the decisions they take about the trust’s assets.

This article first appeared in Sunday Times – Business Times. Click here for the original article.

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