Trusts may be one way to protect your assets from creditors but it is not something you should enter into lightly as the negatives could outweigh the benefits of protection.
Mpho wrote to me to argue the point that a trust would have been able to protect his assets when he recently landed in financial and legal difficulty after signing surety on credit for a business. “If my assets were owned by a trust I would have been able to protect them,” writes Mpho.
Unfortunately it is not as simple as just transferring your assets into a trust. There are many points to consider.
Control of your assets
Frank Magwegwe, head of Momentum Personal Adviser Services at Momentum Retail, says one of the key features of a trust is that you no longer own the assets. They are owned by the trust which is a legal entity, governed by a trust deed and which is required to have independent trustees whose responsibility it is to carry out the mandate of the trust as per the trust deed. This is a legal requirement to ensure that you do not have unnecessary influence over the assets.
All decisions taken within the trust would have to be signed off by independent trustees who have a fiduciary responsibility to adhere to the mandate. “It is advisable to have at least three trustees, with one of the trustees being an independent trustee, which is usually someone like an attorney, or accountant,” says Magwegwe.
If you no longer wish to house the assets in the trust you have to follow a legal procedure to unwind the trust.
In Mpho’s case, for example, the bank may not have granted the business a loan if Mpho did not have assets in his own name to use as surety. If the bank was prepared to lend the business money without surety then Mpho could have taken the loan in the company’s name and protected his assets in that manner.
Donations tax
The manner in which assets are transferred is important and relevant to the extent of the protection of the assets. You cannot just transfer your assets to a trust as this would be seen as donating your assets and donations tax would apply for any value over R100 000 per year.
The transfer of assets usually takes the form of a loan which is really a paper trail rather than an actual loan. The trust is granted a “loan” by the founder of the trust equal to the value of the assets. The trust buys the assets using the loan and the founder writes off the loan each year by R100 000 to avoid donations tax. If the founder dies before the loan is repaid by the trust, then the “unpaid” assets within the trust would form part of the founder’s estate.
When protection does not apply
It is also important to note that while a trust can protect your assets from creditors, this protection does not apply if you transfer the assets in order to prejudice creditors.
David Knott of Private Client Holdings says that once an asset has been pledged as surety, it cannot later be placed in a trust as that subsequent disposal would be set aside by the court. “Likewise, should one be on the brink of insolvency, one cannot suddenly seek to protect assets by placing them in trust as any transaction which occurs within two years of sequestration would be set aside by the liquidator.” Knott adds that one cannot move assets into a trust prior to divorce to hope to hide assets as the court once again would look at the motive behind the transaction.
Higher tax rates
Trusts are taxed at a flat rate of 41% so you could be paying more tax than you would in your individual capacity. Capital gains tax is charged at a maximum effective rate of 27.31% compared to 13.65% for individuals, again increasing the tax liability. In the case of residential property, if the house is in the name of a trust it does not qualify for the R2 million capital gains tax exemption.
Administration costs
There are costs to both setting up a trust and maintaining a trust. You can expect to pay between R7 000 and R12 000 to establish a trust. The annual fees would vary depending on the underlying assets. For example if the trust just held a fixed property, the annual trust administration fee would be in the region of R12 000 while a share portfolio could cost 1% to 2% of the value under management.
The trust has to keep accurate annual financial statements and supply both an annual and provisional income tax return. A separate bank account has to be maintained and trustees minutes and resolutions about all transactions have to be drafted and retained. These would lead to additional costs.
Knott emphasises that a trust should be considered where you are likely to hold growth assets over a period of time and you are seeking an orderly vehicle to protect beneficiaries against themselves, a future spouse, and maybe possible creditors. “Whilst there may be the likelihood of saving estate duty later upon death, the decision to create a trust should not be driven by this or any other tax consideration.”
This article first appeared in City Press.
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