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Ok. Got itInternational trusts have many advantages, but you also need to understand the tax implications. Here are simple tips according to legislation to help you.
These include continuity, less delay in the distribution of benefits at death, protection of your dependants, estate duty savings, flexibility, protection of your privacy, and protection of your assets from potential attack.
In the case of an international trust specifically it can, among other things, help protect your international investments from costs such as estate duty, capital gains tax and, if applicable, executor’s fees and/or costs associated with foreign probate. It is, however, important to understand the tax implications of international trusts for South African residents. We have written about this before, but as more information becomes available, it is important to stay up to date and informed.
We recommend seeking professional advice on your specific situation |
While the article below sets out the rules and regulations as simply as possible, the practical application can be quite complex. Our specialist fiduciary team has extensive knowledge and experience of trust structures and stay up to date with all the regulations and the practical impact of these. They will be able to set out the tax consequences to you and we strongly recommend following this up with obtaining tax advice from your tax advisor.
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We always encourage clients to take a global view of their wealth to benefit from access to more opportunities and better risk-return characteristics over time. It is important to fully understand the tax implications of international trusts for South African residents to ensure you make informed decisions that support your investment objectives over the long term.
A The starting point – who is responsible for the tax liability?
B The different tax treatments of funding a trust with a donation versus a loan
C Tax triggers and the tax impact (donations and interest-free/low-interest loans)
D Applying an interest rate to a loan – what you need to know
E Reportable arrangements – what they are and how they affect you and your international trust
The tax liability falls on you as a South African resident, not on the trust
According to current South African tax legislation, South African resident individuals are taxed in their own hands whenever they are involved with an international trust, whether as a funder and/or a beneficiary. An international trust is not regarded as a taxpayer in South Africa in its own right, provided the ‘place of effective management’ of the international trust is not in South Africa. This means all trust-related decisions must be taken and implemented by the trustees outside of South Africa, including investment-related decisions.
Whether you fund the trust through a donation or a loan will determine the tax treatment.
The exact tax liability will be determined by your role in the trust and the tax trigger
Your role as a South African resident | Tax trigger | Tax impact |
You fund the international trust by way of an outright donation. | The actual donation. The trust earns taxable income (including taxable gains). |
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You are a beneficiary of an international trust. You fund the trust by way of an interest-free or low-interest loan and you are a beneficiary of the trust (or a relative of a beneficiary). | You receive a distribution comprising taxable income from the trust, eg realised gains, interest, foreign dividends or property rental. | The distribution will be subject to the relevant taxes in your hands. |
The trust earns taxable income or realises gains. |
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If the loan constitutes an ‘affected transaction’ (as defined in section 31 of the Income Tax Act), that means a transaction between a resident and a connected non-resident, eg a South African resident lender who is a beneficiary of an international trust to which a loan is advanced and a tax benefit is derived as a result of the low-/non-interest bearing loan. If actual income and capital gains attributable to you (in terms of the attribution rules) are:
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The application of these provisions is very complex. We therefore recommend that you obtain a formal tax opinion from a professional tax advisor to clarify the tax treatment of a potential or existing loan to an international trust.
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How to know which interest rate will apply
The interest charged on an interest-bearing loan will be taxed in the South African lender’s hands. To determine the interest rate that will apply, it’s important to understand the difference between ‘an arm’s length rate of interest’ (as required in terms of section 31) and ‘the official rate of interest’ (as required in terms of section 7C).
Arm’s length rate of interest | Official rate of interest |
When this will apply How the rate is determined |
When this will apply How the rate is determined
(Where a new repo or equivalent rate is determined, the new rate will apply from the first day of the next month.) Please see the table below for more information about how to select the currency of the loan. |
Since it’s easier to determine the official rate, as shown above, we support using the official rate as the arm’s length rate and applying it to a loan between an individual (as the lender) and a trust (as the borrower). By applying the arm’s length rate of interest (with reference to the official rate) there should therefore be no ‘tax benefit’ or ‘gratuitous disposal’. Accordingly, neither the transfer pricing provisions mentioned in section 31, the attribution provisions, nor section 7C would apply.
What to consider when applying an interest rate to a loan to a trust
What to consider when selecting the currency of the loan
Advantages | Predictable estate duty The value of the loan is pegged effectively for purposes of calculating estate duty (assuming interest is not capitalised). |
Lower income tax The official interest rate on foreign currency loans is currently lower than the official rate of interest on rand-denominated loans. Lower income tax and estate duty on capitalised interest Capitalised interest is therefore generally lower on foreign currency loans, which means the increase in the value of the loan is smaller, which in turn reduces the income tax payable on the interest and estate duty liability. |
Disadvantages | Higher income tax The official interest rate on rand-denominated loans is currently higher than on foreign currency loans. Higher income tax and estate duty on capitalised interest Capitalised interest is therefore generally higher, which means the increase in the value of the loan is greater, which in turn increases the income tax and estate duty liability. |
Potential increase in income tax and estate duty If the rand depreciates against the selected foreign currency, the value of the loan (in rand terms) for the purposes of calculating income tax and estate duty will increase. |
What are reportable arrangements?
A reportable arrangement in the context of international trusts is any arrangement that meets the following two criteria:
All reportable arrangements must be disclosed to SARS
The obligation to disclose a reportable arrangement to SARS rests on all participants (as defined in terms of section 34 of the Tax Administration Act No. 28 of 2011), including the promoter. The promoter is the person principally responsible for organising, designing, selling, financing or managing the reportable arrangement. The definition of the word ‘promoter’ is wide and includes the scenario where we as Nedbank Private Wealth advise you as a South African resident on funding an international trust that meets the criteria above.
Failure to disclose a reportable arrangement carries heavy fines
A penalty of R50 000 per month for a participant and R100 000 per month for the promoter for a period of up to 12 months will apply. Where the anticipated tax benefit due to a participant exceeds R5 million, the penalties are doubled and, if it exceeds R10 million, the penalties are trebled.
Reportable arrangements do not apply to discretionary international trusts
There are different interpretations of the meaning of ‘beneficial interest’ that is included in the criteria for reportable arrangements. SARS must still provide clarification on the different views. Until then, based on the approach followed in court, our view is that a discretionary interest (which, according to law is a spes, or a hope) is not a ‘beneficial interest’, which means that a reporting obligation does not apply to discretionary international trusts. This view is supported by the Banking Association of South Africa. Furthermore, when a discretionary beneficiary receives a distribution from an international trust, the beneficiary acquires a ‘personal right’ (not a vested right) to claim the amount, and therefore remains a discretionary beneficiary. As a result, our view is that a reportable arrangement will apply only where the lender has or acquires a ‘vested interest’ in the trust capital or income at the point that the contribution or payment is made.