FISA member Louis van Vuren wrote an article on trusts for Blue Chip Journal.
A useful structure for uncertain times
Wednesday, 01 December 2010
The trust remains a useful structure for many purposes. This becomes even more valuable to remember in uncertain times. At the same time, though, South African trusts are prohibited from investing offshore. In the light of the recently announced relaxation of exchange control, this may come under attack – possibly from a constitutional angle.
This prohibition on offshore investment by South African trusts is fast becoming untenable. The real purpose of this seems to be obscure. A trust does not create greater risk in terms of capital flight than an individual.
In light of the substantial relaxation of exchange controls on individuals (obviously hoped to have a weakening effect on the value of the rand), it makes even less sense.
It seems, at this stage at least, that the proposed relaxation is not going to benefit trusts and their beneficiaries.
The limitation seems to fall foul of the principle of equality as envisaged in section 9(1), read with the property clause in section 25(1) of the Constitution, 1996.
There does not seem to be any rational explanation for distinguishing between individuals in their direct personal capacity, and individuals as beneficiaries of a trust and for whose benefit the trustees hold and administer the trust estate.
Only time will tell how this scenario will develop.
A valuable structure
A trust, whether inter vivos (the typical “family” trust scenario) or testamentary, remains a valuable structure – particularly as an estate planning tool.
Even if the remaining benefits from a tax and estate duty perspective are ignored completely, the asset protection benefits of a trust are significant.
The trust is extremely useful in uncertain times. It enforces a discipline in decision-making that does not exist necessarily when an individual has to take decisions about his/her own affairs.
There are controls in place to help prevent hasty knee-jerk reactions to events in markets. Although no guarantee, it creates an opportunity for a level-headed trustee to exert influence to prevent decisions to be made on emotional grounds instead of rational ones.
This benefit results mainly from the fact that a trust is not a legal persona. It is an accumulation of assets and liabilities placed under control of the trustees (see Land and Agricultural Development Bank of Southern Africa vs. Parker and others  4 All SA 261 (SCA) at par 10).
As such, it is very flexible and can cater for a wide variety of circumstances, provided the trust deed is strictly adhered to at all times.
The deed is the “constitution” of the trust, and trustees can do anything legal it empowers them to do – but may not do anything it does not empower them to do.
The rising interest in behavioural finance over the last 10 years has created awareness that the individual carries distinct biases that hamper his/her ability to take sound decisions with regard to investments.
Interposing trustees between the individual and the decision can assist in bringing more rationality to the process by raising the potential that not all the trustees will suffer from exactly the same biases as the founder of the trust.
It could further assist in ensuring that a documented process is put in place to take advice from investment advisers or managers before making any investment decisions.
All this will obviously come to naught if the founder of the trust (the previous owner of the assets placed in trust) does not relinquish control over the assets in his/her own mind.
Sticking to the discipline
In practice, we come across individuals almost on a daily basis who want the benefits of a trust in the sense that the growth assets are removed from their personal estates, but do not want to submit to the discipline that goes with relinquishing control to the trustees.
The dominant founder or trustee, wanting to call all the shots and expecting the other trustees to dance to his/her tune, is unfortunately a very common occurrence. Actions such as these can cancel all the benefits of the trust, as was made clear by the Supreme Court of Appeals in Thorpe vs. Trittenwein ( SCA 30 (RSA) at par 17).
Over the last 15 years, the trust has lost some of its appeal as a tax-planning tool due to legislative intervention.
It started with the anti-avoidance provisions contained in Section 7 of the Income Tax Act, 58 of 1962. This plugged the gap available to parents to make loans to trusts of which their minor children are beneficiaries, and have any income derived from the investment of the assets loaned taxed in the hands of the beneficiaries (the minor children).
What followed later were the different tax tables for trusts, the flat rate of 40% tax from the first rand of income for trusts, the removal of primary tax rebates for trusts, and the grouping of trusts with legal personae for inclusion rate purposes in capital gains tax.
A testamentary trust – where a family member beneficiary is under the age of 21 years – qualifies, however, it is to be treated as a special trust and is then taxed as a natural person on the normal tax tables. This is as a result of a legislative change in the late 1990s after submissions to the minister of Finance by the then Association of Trust Companies (now the Fiduciary Institute of South Africa – FISA).
Significant benefits of trusts remain despite the clampdown on tax benefits.
In discretionary trusts, the trustees can attribute income and capital gains to the beneficiaries, leading to these being taxed in the hands of the beneficiaries at the rates applicable to individuals.
This can only be done, obviously, if the trust deed makes provision for it.
(It is advisable to obtain the advice of a knowledgeable person before attempting to do this. )
The most important advantages of a trust, however, remain the asset protection capacity. Assets can be protected from the whims of emotionally immature, financially unsophisticated or squandering individuals.
To achieve this, it is vital to obtain the services of independent and knowledgeable trustees who would be willing to stand up to any dominant founder and/or beneficiary.
Louis van Vuren CFPR is head of Personal Fiduciary Services: BoE Trust, and a member of FISA