AMENDMENTS TO TAXATION OF TRUSTS

Article 7 (C) OF THE INCOME TAX ACT, 58 of 1962 – effective from 1 March 2017

As from 1 March 2017, in terms of this new provision, low-interest (or interest-free) loans are targeted to trusts. This article applies where a natural person (or a company that is a “connected person” with respect to that natural person) (hereinafter trust creditor) under paragraph (d) (iv) of the definition of connected persons, make a low-interest or interest-free loan to a trust whose natural person is a “connected person”. This article states that the difference between the “official interest rate, currently at 8%, and the amount of interest actually charged on the loan to the trust is deemed to be a continuous donation to the trust.

As a result, the lender is taxed on a deemed donation that he makes to the trust which will be calculated as follows.

Should the natural person’s loan amount to R2 000 000. Interest at 8% must be charged, i.e. R160 000 per annum. Should it not be charged, there is a donation of R160 000 on which the natural person must pay 20% donation tax. If no other donations tax exemptions are used, R32 000 donations tax is due. Should the lender make use of the donation tax exemption of R 100 000 per year, only R12 000 donation tax will be payable (R160 000 less R100 000) x 20%

The net effect of section 7 (C) is not as dramatic as it initially occurred. On a loan of R2m, tax of R12 000, or 0.6% of the loan amount, is payable. However, should the loan amount be very high, the amount of tax can be a considerable amount and provision should be made for the donation tax.

It is very important to ensure that the financial statements as of 28 February 2017 are corrected and that proper planning is required before these financial statements are signed, as this is the last year where this provision will not apply.

This new provision does not change the guiding principle at all. Therefore distributions to beneficiaries can be done by the trustees as in the past.

Summary

Donation

If a loan is made to a trust by a connected person. (Natural person/company) interest must be interest must be charged on the loan at the official interest rate (currently 8%)

If there is an interest-free loan to the trust, a donation will be taxed in the lender’s hands at 20% of the official interest rate amount.

This donation will be taxed annually until the loan is repaid. The lender will, therefore, be taxed at the end of each year as long as the loan exists.

Should the lender raise interest and the interest is used to generate income in the trust, the trust will deduct interest from taxable income and the lender will pay tax on interest after deduction of interest exemption.

If a credit loan in the hands of the lender is written off, Capital Gain Tax is payable, no change.

No Capital Gains Loss will be allowed for the trust if this loan is written off.

When the loan has been received by the trust for the purchase of a primary residence and the lender use the property as primary residence, section 7 (C) does not apply.

There are no tax implications when the trustees decide to lend an amount to a trustee or beneficiary.

Vesting of distribution to beneficiaries

Should the trustees decide to make a distribution to a beneficiary and it is not paid to the beneficiary, a loan will arise in favour of the beneficiary.

This loan may also give rise to the above-mentioned donations tax.

Should the trustees make a distribution to a beneficiary, but with a suspensive condition to it e.g. that it can only be paid to the beneficiary at a later date or that it is only payable when funds would be available etc. In that circumstance, for income tax purposes it is not a valid distribution and such amount will be retained and taxed in the trust and does not serve as a deduction in the trust.

This article is a general information sheet and should not be used or disclosed as professional advice. No liability will be accepted for any errors or omissions or for any loss or damage arising from the use thereof.

Always contact us for specific advice.

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