Gifts and donations
A South African resident with a resident spouse or life partner (whether same or opposite sex) can transfer funds to his/her spouse or life partner without incurring any donations tax (levied at 20/25%) or capital gains tax (a maximum effective rate of 18%). This assumes the sole purpose of the donation was not to reduce, postpone or avoid tax.
Another situation in which you wouldn’t attract donations tax is if your funds are used to cater for the reasonable living expenses of your child or loved one. A bona fide contribution made towards the maintenance of any person that the Commissioner of the South African Revenue Service (SARS) considers reasonable, would be exempt for donations tax purposes. There are, however, limitations on this exemption.
Gifts to any other person, including children, or an entity, would attract donations tax and could be subject to capital gains tax as well. Furthermore, in certain instances, the income and/or capital gain that the donee earns could become taxable in the hands of the donor.
Advancing a loan
Instead of an outright donation, you could consider advancing a loan. Lending to fellow South African tax residents is treated differently when compared with lending to non-tax-residents.
Loans between South African tax residents
If a loan is made between two South African tax residents, the loan can, in certain instances, be made on an interest-free basis. It’s important that the agreement is put down in writing, and that the loans are dealt with in your will. The loan would be an asset in your estate for estate duty purposes. Estate duty is currently levied at 20/25% on the dutiable value of your estate, subject to certain exemptions, for example, between spouses.
Loans between a South African tax resident and a non-tax resident
If interest-free loans are advanced to non-residents, a whole host of onerous tax provisions may be applicable. Therefore, generally, interest-free loans are not advisable and the transaction should be undertaken on arm’s length terms (in other words, both parties should be acting independently and in their self-interest). Tax advice must be obtained if you are considering lending to a non-resident.
What about loans between you and a trust structure?
At the risk of oversimplifying matters, lending funds to a trust (whether local or offshore), should be done in an arm’s length manner, in general.
Should you not charge interest on loan funds advanced to a trust, a host of tax provisions would become applicable. For example, you would need to consider section 7C of the Income Tax Act No.58 of 1962. In terms of 7C, if you do not charge interest on the loan advanced to your trust or underlying company, the interest that you should have charged would be deemed a donation, taxable at 20/25%. Furthermore, the so-called “attribution rules” contained in the Act could attribute income and/or capital gains generated by the trust, back to you, making it taxable in your hands. These attribution rules are ‘switched on’ when transacting with the trust gratuitously (i.e. when donating into a trust or not charging interest on a loan). If you are transacting with an offshore trust, transfer pricing rules also come into play.
When transacting with a trust, it is imperative that tax advice is obtained.
The overarching importance of estate planning
It’s crucial to ensure that your executors and the trustees have flexibility and understand how to deal with any loans once you are no longer around. Your will needs to be drafted in a manner in which your estate administrators can elect how best to deal with the loan.
For example, if you have a loan owing to your domestic trust, the loan may need to be repaid. This would require sufficient liquidity in your estate. As an alternative, your heirs could effectively step into your shoes and take over the loan liability. On the other hand, if you have a loan owing to you, you may want to leave this asset to the borrower in terms of your will, depending on the estate duty implications, as well as the ability of your loved one(s) to repay the loan.
We recommend that your estate plan is reviewed regularly to ensure that any transactions you enter into are done in the most tax-efficient manner.
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