Trusts have for some time been the focus of the tax authorities in South Africa. In the case of Commissioner for Inland Revenue v. Friedman and Others NNO 1993(1) SA 353 (A), the Appellate Division upheld the judgement of the Witwatersrand Local Division that “the Trust created by the late Phillip Frame in terms of his will dated 24 July 1974 is not a ‘legal persona’ and therefore is not a person within the meaning of that word in the Income Tax Act No. 58 of 1962 (as amended) and that, therefore, the Respondent was and is not entitled to levy taxation on the Trust, in terms of the Act”.
READ:Capital asset vs revenue asset
Briefly, the net income of the trust in question did not accrue to any beneficiary, the trustees having discretion as to the distribution of income among beneficiaries. Inland Revenue sought to tax the income retained in trust, but as the trust was not held to be a legal persona, it fell outside the taxing statute and the income went untaxed. The taxing statute was then amended, changing the definition of a person to include a trust. As a result, the revenues of trusts were subject to tax from 1 March 1986.Trusts have been on the receiving end of tougher and tougher tax rules ever since.
Troubling new proposals
The latest set of proposals, as contained in the Budget Review for 2013/2014, state that the ‘flow through’ principle of trusts is to be curtailed. On page 54 it states: “Discretionary Trusts should no longer act as flow-through vehicles. Taxable income and loss (including capital gains and losses) should be fully calculated at trust level with distributions acting as deductible payments to the extent of current taxable income.
“Beneficiaries will be eligible to receive tax- free distributions, except where they give rise to deductible payments (which will be included as ordinary revenue).” In plain English, it is proposed that the income of a trust be taxed at trust level. As trusts are taxed at 40%, that’s quite an unpleasant prospect. However, the distributions to beneficiaries can, it seems, still give rise to deductible amounts and such distributions will be taxed in the hands of beneficiaries. The position regarding capital gains is less clear, so we must await the proposed legislation in order to analyse it properly.
Private company a better bet
Exempt income, however, will surely remain exempt – no tax specialist in South Africa would stand for a double tax scenario. Thus, once withholding taxes are paid, dividends should remain tax-free. My suggestion? Apart from uncertainty regarding capital gains taxes, I believe that it might be better to transfer farming operations in trust to private companies, as this would in all probability avoid the punitive tax proposals.
It is indeed regrettable that the tax authorities seem determined to make any moderately successful person a victim of high taxes. The tax advisory industry is now faced with some serious challenges. It’s time to don the thinking caps.
Peter O’Halloran is head of tax at BDO, Gaborone. Contact him on 00267 390 2779 or at [email protected]. Please state ‘Tax’ in the subject line of your email.
