The Draft Taxations Laws Amendment Bill, 2016 has been made available for comments.
As far as trusts are concerned a new section 7C is proposed.
The provisions of said section can be summarised as follows:
- The provisions apply to a loan, advance or credit made by a natural person,or
- by any company in relation to which that person is a connected person (i.e. any person who individually or jointly with any connected person in relation to himself holds directly or indirectly at least 20% of the company’s equity share capital or voting rights),
- to a trust,
- in relation to which that person or company (or any person that’s a connected person (i.e. a beneficiary of a trust, any relative of such beneficiary, any other beneficiary of such a trust)) in relation to that person or company is a connected personand
- no interest is incurred by the trust in respect of the loan, advance or credit,or
- interest is incurred at a lower rate than the official rate of interest (contemplated in paragraph 1 of the Seventh Schedule to the Income Tax Act – currently 8%).
Result where abovementioned provisions apply:
- Imputed interest:
An amount equal to the difference between the amount incurred by the trust in respect of the year of assessment and the amount that would have been incurred by the trust at the official rate of interest mentioned above will be included in the income of the person making the loan;
- Interest exemption:
The imputed interest will not qualify for the interest exemption set out in section 10(1)(i) of the Income Tax Act;
- Recoverability of the attributable income tax:
An amount equal to the difference between the amount of normal tax that would have been payable by the person in respect of the year of assessment and the amount payable by that person after inclusion of an amount in terms of this section may be recovered by that person from the trust;
Should that person not recover the additional tax paid from the trust within a period of three years, that amount will be treated as a donation by that person to the trust after the period of three years and be taxed as such;
- Donations tax threshold not applicable:
Section 56(2) of the Act exempting donations up to an amount of R 100 000 will no longer apply to a loan, advance or credit as contemplated in this section that is disposed of under a donation;
- Commencement date:
The section comes into operation on the 1st of March 2017 and applies in respect of years of assessment commencing after the 1st of March 2017.
- The introduction of this proposal is a direct result of the intention by National Treasury to curb the use of trusts for the saving of estate duty;
- The net result will be that any interest free loan or low interest loan to a trust by any connected person in relation to that trust will result in imputed interest being added to the income of the person making the loan. The imputed interest will be the difference between the interest actually charged on the loan and the official interest rate (currently 8%);
- The typical scenarios relevant to trusts which will be effected by this proposed legislative change (when promulgated) are:
- Where a person sells an asset to a trust on an interest free loan or charge interest on the loan at a rate lower than the official rate prescribed by SARS (currently 8%);and/or
- Where the trustees of a trust make a distribution to trust beneficiaries and credit the distribution on an interest free loan account or charge interest on the loan at a rate lower than the official rate prescribed by SARS. Since beneficiaries of trusts qualify as connected persons in relation to the trust, it seems as if a loan to the trust by a beneficiary (as a result of a distribution of income or capital from the trust to the beneficiary which distribution was credited on loan account and not paid out) can invoke the provisions of this section.
- Any additional tax payable by a person as a result of the application of this section may be recovered by that person from the trust. Should that person decide not to recover the additional tax from the trust for a period of three years the amount of the tax not recovered will be seen as a donation by that person to the trust and taxed as such.
- The practice of writing off a R 100 000 per tax year on the loan free of donations tax will not be available for as long as the loan is an interest free or low interest loan as envisaged.
- It is important that clients contact us or their advisors regarding any trusts where loans, as envisaged above, exist. Should such a loan exist it would be advisable to charge interest at, at least, the official interest rate as from the 1st of March 2017. It would be better to actually charge the interest than to allow the imputed interest to be applied since interest actually paid will qualify for the interest exemption.
- If the trust earns taxable income these provisions should not create too many problems since the trust should then be able to deduct the interest paid for tax
- Where the trust does not earn any taxable income, the problem will be that the interest will be taxable in the hands of the person making the loan, but no deduction will be allowed in the trust.
- It seems from the wording that, an interest free or low interest loan to a company, even if a trust owns all the shares, will not fall foul of these provisions. As the legislation stands at the moment, this seems to create an opportunity to circumvent the provisions of section 7C.
- While these new provisions will affect estate planning via trusts it will most definitely not mean the end of the trust as we know it. Careful planning by knowledgeable advisors should still make it possible to utilise the trust as a more than useful estate planning vehicle;
- We also wish to emphasise that this is draft legislation open for Further changes might occur prior to the final legislation being promulgated;
- We will inform you of any further developments.