A question I commonly encounter from persons with foreign trusts (the Applicant) who applied for relief under the recent Special Voluntary Disclosure Programme, 2017 (SVDP) is, “should I keep the trust?”
The answer to this question, in my view, lies in understanding the benefits of the trust during the lifetime of the Applicant (if any) and the benefits after the Applicant passes away (if any).
This article assumes that the Applicant made an election to have the trust assets treated as his assets and that the asset for which SVDP was applied for is not an interest-bearing loan that was made to the trust.
During the lifetime of the Applicant, the Applicant is liable for tax on the income and capital gains earned within the trust, as if the trust assets belong to the Applicant personally.
Where the trust holds more than 50% of the shares in a foreign company, the underlying company will be treated as a Controlled Foreign Company (CFC) for South African tax purposes and, as a result, the income and capital gains accruing in the CFC company will also be taxed in the hands of the Applicant.
Upon the death of the Applicant, he is deemed to have disposed of the Trust assets for their market value as at the date of his death, thus triggering a capital gains tax event.
The Trust assets will also fall within his estate for South African estate duty purposes.
Thereafter, the above deeming provisions fall away and there will be no further tax consequences for the South African beneficiaries of the Trust until such time as the trustees make a distribution to them.
Distributions to South African beneficiaries will only be subject to tax to the extent that the distribution has not been taxed in South Africa previously. It will therefore only be income earned in the Trust subsequent to the Applicant’s passing that will result in a tax liability for the beneficiaries.
Assume that the capital of the Trust at the date of the Applicant’s passing is $5 million. An amount of up to $5 million can be distributed to the beneficiaries as a capital distribution without any additional tax being payable in the hands of the beneficiaries.
However, depending on the domicile of the beneficiaries, there could be tax consequences for them in their country of residence even if they do not receive distributions from the trust. For example, if any of the beneficiaries are resident in the US, they could, under certain circumstances, have a liability for US tax on undistributed income retained in the trust.
As can be gathered from the above, a foreign trust really only has a benefit to the extent that there are sufficient funds in the Trust to provide for subsequent generations after the passing of the Applicant, but subject to the tax laws of the country where the beneficiaries are resident.
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