Is fixed property in trust still viable? - Gerrie Vosser
For many years the high transfer duty rate applying to trusts made it less attractive to purchase fixed properties in trust, a situation that changed, quite unexpectedly, for the better when on 23 February 2011 the transfer duty rate for trusts was adjusted downwards to the same more favourable rate as those for natural persons. However, just as unexpectedly, in the 2012 budget capital gains tax (CGT) inclusion rates were increased, resulting in trusts now being exposed to a maximum effective CGT rate of 26.7%.
For many years the high transfer duty rate applying to trusts made it less attractive to purchase fixed properties in trust, a situation that changed, quite unexpectedly, for the better when on 23 February 2011 the transfer duty rate for trusts was adjusted downwards to the same more favourable rate as those for natural persons. However, just as unexpectedly, in the 2012 budget capital gains tax (CGT) inclusion rates were increased, resulting in trusts now being exposed to a maximum effective CGT rate of 26.7% compared to those of 18.6% and 13.3% for private companies and private individuals respectively.
Concerns have subsequently been raised that ownership of fixed property in trust as a way to create, protect, utilise and transfer wealth may have been dealt a crippling blow. However, these concerns turn out to be unjustified when various fixed property ownership options are analysed from an integrated, multi-disciplinary point of view.
Optimal ownership of investment property
Consider the example of an investment property, fully paid, currently worth R 1 000 000 (use this as base cost for CGT) with a projected annual capital growth rate of 10% and a current annual rental income of R 72 000 (net of cost). The following comparative tax and cost analysis of various ownership options shows a trust to be the optimal ownership choice:
Personal ownership
Property owned by Joe Bloggs, successful business person and subject to an income tax rate of 40%, married out of community of property to Jill, an unemployed housewife, with two children approaching their teens and Jill's mother financially dependent on the Bloggs. (Even without the investment property of R 1 000 000, the net value of Joe and Jill's combined estate and life assurance already exceeds R 7 000 000.)
Private company
Property owned by a private company the shares of which are held by Joe.
Family trust
Property owned by a fully discretionary family trust with a personalised beneficiary base.
Tax & Cost | Investment property ownership options | ||
Personal ownership | Private company | Family trust | |
Scenario one: Situation at Joe's death 10 years later, property then worth R 2 593 700 | |||
Capital gains tax Maximum effective rate Capital gains tax | 13.3% R 211 962 | 18.6% R 296 428 | NA R 0 |
Executor's fee @ 3.5% + VAT Gross value in estate Executor's fee | R 2 593 700 R 103 489 | R 2 297 272 R 91 661 | R 0 |
Estate duty @ 20% Dutiable amount Estate duty | R 2 278 249 R 455 650 | R 2 205 611 R 441 122 | NA R 0 |
Total tax & cost | R 771 101 | R 829 211 | R 0 |
Clearly, Joe's dependents would have been much better off with the investment property in trust. | |||
Scenario two: Joe bequeaths the property/private company to a trust after 10 years | |||
Transfer duty Transfer fee Secondary transfer tax @ 0.25% | R 124 496 R 24 000 NA | R 124 496 NA R 5 432 | NA NA NA |
Total tax & cost | R 148 496 | R 129 928 | R 0 |
Original ownership in trust would have prevented these costs associated with a bequest to a trust. | |||
Scenario three: Income tax during the 10 year period | |||
Income tax rate | 40% | 28% | 0% |
Income tax liability | R 288 000 | R 201 600 | R 0 |
Dividend withholding tax @ 15% | NA | R 77 760 | NA |
Total tax liability | R 288 000 | R 279 360 | R 0 |
Using the conduit principle, trust gross income is distributed to two non-income earning Bloggs family members resulting in no income tax having to be paid. A trust is the best option again. | |||
Scenario four: Liquidation of property after 10 years during Joe's lifetime | |||
Capital gains tax Dividend tax @ 15% | R 207 972 NA | R 296 428 R 344 591 | R 42 573 NA |
Total expense | R 207 972 | R 641 019 | R 42 573 |
Again, using the conduit principle with trust gross income distributed to four non-income earning Bloggs family members, there is a total CGT liability of only R 42 573. A trust, yet again, proves the best option. (The effects on the personal estates of the beneficiaries need to be carefully considered and managed.) | |||
In suitable circumstances and from a tax and cost point of view, a properly structured and professionally used discretionary trust without doubt still provides the optimal ownership solution for an investment property.
Remember however that tax benefits should never be the primary reason for establishing and using a trust. Tax legislation may change for the worse; and personal circumstances may change and neutralise potential tax benefits. Remember too that the planning, drafting and upgrading of trust deeds, as well as the management and administration of trusts requires multi-disciplinary professional skills. Members of the public are advised to seek out a practitioner who is a member of the Fiduciary Institute of South Africa (FISA), who are bound by a code of ethics to adhere to a high professional standard.
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