Taxation of Trusts Continued

Tax Rates for Trusts

Special trusts are taxed at the rates applicable to individuals. A special trust is one created solely for the benefit of a person affected by a mental illness or serious physical disability which prevents that person from earning sufficient income to maintain himself, or a testamentary trust established solely for the benefit of minor children who are related to the deceased. Where the person for whose benefit the trust was established
dies prior to or on the last day of the year of assessment or the youngest beneficiary, in the case of a testamentary trust, turns 18 (2013: 21) years of age prior to or on the last day of the year of assessment, the trust will no longer be regarded as a special trust. All other trusts are taxed at the rate of 40%.

A loss incurred by a trust cannot be distributed to beneficiaries. The loss is retained in the trust and carried forward to the next year as an assessed loss.

A Trust is different to a company or a close corporation in that it is the trail of each transaction with the trust that will determine whether the trust or a person connected to the trust – such as a funder, donor or beneficiary – is liable for the payment of any tax on income or capital gains earned within the trust.

The South African Revenue Service (Sars) has begun to view trusts as a means of structured tax avoidance. Therefore, a number of measures have been introduced resulting in the income of trusts being taxed at 45% – the highest rate applicable to individuals – and capital gains being taxed at 36% – the highest effective rate applicable to any taxpayer (although the effective tax rate for a capital gain distributed to a shareholder in a company is now at a higher rate of 37.92% after the increase of the dividend tax rate in February 2017).

Do you have to register a trust for tax purposes?

Although a trust is not a legal entity, with the inclusion of a trust as a “person” in the Income Tax Act, Sars recognises a trust as a separate taxpayer. Sars requires that every South African trust be registered for income tax. This must be done as soon as you have successfully registered the trust with the Master of the High Court, and you are in possession of a registration number.

Failing to register for income tax is a jailable, criminal offence. If you do not end up behind bars, Sars will charge you penalties as high as 200%, if the trust were to pay tax.

If you want to register a Special Trust Type A for a disabled person, Sars may grant “special trust” status to complying trusts, on application.

To benefit from a Special Trust Type B for minors, Sars will use the information on the trust tax return to ascertain whether the trust qualifies as such. No application to Sars is required.

These two types of trusts attract more favorable tax rules.

Where do trusts pay tax?

A trust is considered to be resident for tax purposes if it is incorporated, established, formed, or has its place of effective management in South Africa. If the trust is registered in South Africa, it will always pay tax in South Africa.

If the trust is registered outside of South Africa but is effectively managed in South Africa, it will be taxed in South Africa, as long as it is managed in South Africa.

The management of the trust would be evidenced by factors including where the trustees are based, where meetings are held, and where the business of the trust is generally run.

If you move the effective management of a non-South African trust out of South Africa, it will no longer be taxed in South Africa.

What other taxes are trusts liable for?

Trusts may also be liable for taxes such as value-added tax, payroll taxes, donations tax, transfer duty and security transfers tax.

When is a trust’s financial and tax year end?

Since 2003, Sars requires that all trusts have a February tax year end.

Although Sars allows an individual taxpayer to request a different tax year to coincide with another accounting financial year (in the case of a company), Sars is not generally willing to do the same for trusts. Sars has indicated that should they change the tax year end for your trust, they would require the same tax year end for the trust’s beneficiaries.

Sars wants to ensure the same date is used to calculate taxes for “connected persons” and the trust, to prevent people from abusing the fact that they can move amounts around in between different tax years as a means of evading tax. It is therefore advisable to have your accounting year end and your tax year end on the same day – that is, the last day of February each year.

Who represents the trust as taxpayer?

The trustees act on behalf of the trust in a fiduciary capacity. As such, one of the trustees would be nominated per resolution as a “representative taxpayer” to deal with Sars. This does not imply that Sars may not hold all trustees accountable for the proper administration of the trust.

Sars also requires the nomination of a “main trustee” per resolution. Although the representative taxpayer and the main trustee may appear to be the same person (in the case of a trust), Sars requires two separate resolutions containing these specific terms and appointments. It would, however, normally be the same person.

Are trusts required to pay Provisional Tax?

A trust must apply for registration within 21 business days of becoming liable for provisional tax – that is, when it earns income. Provisional tax is the only way that trusts would pay their taxes to Sars during the tax year if they earn taxable income.

All registered provisional taxpayers must submit a provisional tax return (IRP6) and pay provisional tax twice a year in August and February each year. A top-up payment to pay 100% of the taxes due for that year may be made seven months after the year end in August.

What is the relevance of the connected person rule?

Sars attempts to limit the abuse of trusts as a means of tax evasion by individuals. Sars identifies persons and entities that are closely connected to the beneficiaries of the trust – particularly where income and capital gains have been transferred to such persons and entities – since the beneficiaries are the parties who will directly benefit from all income and capital gains accrued in the trust.

When setting up a trust, be mindful who you link to the trust through the structure or transactions. Even though Sars introduced these anti-avoidance provisions, it may result in less taxes payable in the donor’s or funder’s hands compared with that of a trust, due to the more favourable tax rates for individuals.

If you apply the anti-avoidance provisions correctly, it may work in your favor. Speak to a trust practitioner to assist you, because it can become rather complicated.