Please clarify for me the tax implications of an inter vivos trust. Upon death, the assets of a person without a trust are taxed at “inheritance tax [of] ± 20%”. When a person with an inter vivos trust dies, are the assets transferred to the trust with no tax implications?
When the beneficiaries need income from the trust, are assets liquidated (if there’s not enough cash)? Are beneficiaries required to declare this income which is added to their income to determine taxable income? Is this correct?
What should an individual’s net asset value be for a trust to be effective, not taking into account any beneficiary special needs?
An inter vivos trust is a trust that is established during the lifetime of the founder during which assets can be donated to the trust, at which point they would move outside the estate of the donor.
If the donation is within the founder’s annual donations allowance, currently R100 000 per tax year, this is done tax-free. For anything above this threshold, the founder would be liable to pay donations tax of 20% on the amount above the limit.
You are correct in that assets within an individual’s estate may be subject to estate duty, often referred to as “inheritance tax” at a rate of 20% of the amount above R3.5 million.
Further, any asset value above R30 million is then taxed at a rate of 25%. This amount relates to net values after liabilities and allowable expenses and deductions within the estate. Also, note that assets such as retirement funds and life insurance policies bequeathed to a spouse are either excluded or qualify as a deduction in the determination of the net asset value.
When bequeathing all or a portion of your estate to an inter vivos trust these assets must first move out of the deceased estate before they may be moved to the trust.
Therefore, should the deceased estate value, which would include any outstanding loans to the trust, be above R3.5 million there would be an estate duty liability of 20% of the value above the R3.5 million and 25% on the amount above R30 million.
To provide income to the beneficiaries, certain assets may need to be liquidated to meet these requirements, which can be done where the trustees agree it will be in the beneficiaries’ best interests. The simple purpose of the trustees is to stand in the place of the founder to make such decisions on behalf of the beneficiaries. The tax implication of the distribution to the beneficiaries will depend on the nature thereof (in other words, is it of a capital or income nature).
When income is distributed to the beneficiary(s) this would be added to their personal income under Section 25B of the Income Tax Act which would have the effect of increasing the beneficiaries’ taxable income.
However, Section 25B is subject to Section 7 of the Income Tax Act which addresses anti-avoidance of tax. Thus, even though the beneficiary may physically receive the income distribution from the trust it may not be included in their taxable income and in fact be added to the founder’s taxable income.
Generally speaking, inter vivos trusts can be beneficial to those whose estates exceed R3.5 million in value – or R7 million for married couples – and who either have or intend to acquire capital-appreciating assets that they wish to protect for future beneficiaries.
The values mentioned are however not a hard-and-fast rule but are merely mentioned as an indication of when you could start to consider the use of an inter vivos trust. However, not everyone will benefit from an inter vivos trust and it is advisable to seek the advice of a trusted expert before deciding whether or not to form a trust.