Part of estate planning is to ensure that your will and your estate plan are aligned and that your estate is structured in such a way to minimise the tax burden. Understanding how your estate will be taxed and how the various tax laws apply is key to formulating a good estate plan. The more complex your estate plan is, the longer it can take to wind up. Further, unnecessary complexities can also create unanticipated tax and legal problems so, wherever possible, keep your estate plan as simple as possible.
Your tax commitments follow you to the grave and it is important to bear in mind that Sars has first claim to what is rightfully owing to them. Your executor, who will effectively step into your shoes after your passing, is responsible for submitting your tax returns to Sars, and to make sure that all tax returns are up-to-date – including any tax years that are outstanding (which can often lead to delays in winding up the estate). In such circumstances, your executor will have to request tax certificates and IRP5s from applicable institutions and submit them to Sars.
Following legislative changes made in 2016, there are now effectively two tax assessments that your executor will need to carry out. The ‘pre-date of death’ assessment must include all income and deductions applicable to the deceased up to the date of death, and the ‘post-date of death’ assessment which will include dividends, interest and rental income which accrued during the winding-up process up until the Master has formally approved the liquidation and distribution account – which is generally the expiry date of the Section 35 advertisement. Where an heir or beneficiary inherits an asset from the deceased, this is regarded as a capital receipt and is not included in the taxpayer’s gross income. In our country, there is no tax payable by a person who receives an inheritance.
Capital gains tax
All South African residents, whether living or deceased, are required to pay capital gains tax on the profit made when disposing of an asset. In terms of the Income Tax Act, death is a CGT event, and a deceased person is deemed to have disposed of his assets for an amount equal to the market value of the assets on the date of their death, including assets such as immovable property, shares and unit trusts. When a person dies, the laws of succession come into effect which gives rise to a change in ownership of the deceased’s assets, and this, in turn, has CGT implications. It is the executor’s job to declare the deemed disposal of the deceased’s assets in the final tax return of the deceased. Any CGT payable by the estate will be reflected as a liability in the estate and therefore deductible for estate duty purposes, and the executor will have to pay any CGT liabilities to Sars before finalising the estate.
Bear in mind that the heir or beneficiary who acquires the asset through inheritance is only liable for CGT when he/she disposes of the asset. The Income Tax Act makes provision for a once-off exclusion of R300 000 in the year of death, meaning that R300 000 of the gain or loss will not attract CGT, but any amount thereafter will have an inclusion rate of 40% subject to tax as per the deceased’s marginal tax rate. Other assets which are not included for the purposes of CGT include personal assets for private use such as motor vehicles, cash, the proceeds from life policies, and interests in the pension, provident, retirement annuities and living annuities. Further, all assets that pass to a surviving spouse, whether through testate or intestate succession, do not incur CGT as they are subject to roll-over relief. CGT is also not payable on the first R2 million profit on the disposal of a primary residence.
Estate duty is tax paid on the dutiable estate of the deceased person and is charged at a rate of 20% on the first R30 million, and at 25% on anything over R30 million. The dutiable estate includes all the deceased’s assets and liabilities, less any allowable deductions. Keep in mind that estate duty is applicable to the estates of all deceased individuals who reside in South Africa at the date of their death, regardless of citizenship. Further, it is also applicable to foreign property owned by the deceased if he was a resident of this country at the time of his death. If you do own foreign assets, it is important to be aware of the tax regime that applies to the foreign country in which you own assets and to find out whether there is a double taxation agreement with South Africa so as to avoid being taxed twice on death.
In terms of calculating estate duty, the first R3.5 million of the value of the estate is not subject to tax. If the deceased is the first-dying spouse, he can roll-over this abatement to the surviving spouse who will then have a R7 million estate duty abatement on her death. In addition, where the deceased bequeaths assets to his surviving spouse (including proceeds from a domestic life policy) no estate duty will be charged on the applicable assets.
Importantly, funds held in any retirement annuity, pension fund, provident fund or living annuity do not form part of the deceased estate and are therefore not included when calculating estate duty, making these vehicles attractive estate planning tools. Other deductions which are allowable in respect of estate duty calculations include the deceased’s liabilities, funeral, tombstone and death-bed expenses, administration costs, and fees where the property is transferred. Bequests made to qualifying public benefit organisations also do not attract estate duty.
While life insurance policies are often used to provide liquidity in an estate it is important to note that, where the estate is the nominated beneficiary, the proceeds of the policy will be included when calculating estate duty and executor’s fees. As such, the quantum of cover will need to be adjusted to account for this additional tax and expense when preparing one’s estate plan. While the proceeds of domestic life policies are considered deemed property in the deceased’s estate, there are a number of exceptions that apply. For instance, the proceeds of a policy payable to the deceased surviving spouse or child in terms of a registered antenuptial contract are excluded from estate duty. Similarly, correctly structured business assurance policies where the proceeds are paid to the business partner in terms of a buy and sell agreement are not included for estate duty purposes.
An effective method of reducing estate duty is to incorporate donations into one’s estate plan. Regulated by the Income Tax Act, donations can be used to decrease the net asset value of a person’s estate during his lifetime, thereby ultimately reducing his estate duty liability on death. For individuals, donations are subject to donations tax of 20% on the first R30 million of donations made during a tax year, and then at 25% on donations in excess of R30 million, with an annual exemption of R100 000. Where a person has a sizeable estate, he may consider transferring growth assets in the form of a loan account into a discretionary inter vivos trust for the benefit of his children and/or grandchildren. Loan repayments may take the form of a tax-free donation of up to R100 000 per year over the course of the trust founder’s lifetime. This will have the effect of ensuring that the growth of the asset accrues to the trust and not to his personal estate. However, before setting up a trust, it is important to consider that the tax implications for a trust are much higher than for an individual. Further, the trust founder must consider the effects of gradually losing control of his assets while he is still alive.