LEGACY PLANNING FOR OFFSHORE BENEFICIARIES

If you have interests in foreign jurisdictions by holding assets in more than one country, and/or your children no longer live in South Africa, a traditional estate and tax planning strategy may not be sufficient to achieve the outcome you desire. In fact, it may even have a negative impact on the devolution of your assets and detrimental financial consequences for your beneficiaries living abroad.

MISCONCEPTIONS ABOUT TAX RESIDENCY

There is often a misconception that South Africans who left the country many years ago and no longer have direct interests here, even if they have formally ‘emigrated’, no longer have any obligations towards the South African Revenue Service (SARS) – and will be free to receive an inheritance in their nominated jurisdictions.

Similarly, there’s a belief that South Africans who have left the country and have been outside South Africa for more than 183 days per tax year automatically cease to be South African tax residents. This is, however, not the case. Only after you’ve ceased your tax residency and have placed this cessation of residence on record with SARS will you be considered a non-resident and will you no longer need to file returns – provided you don’t have any South African taxable source income or gains.

Therefore, if your children no longer regard South Africa as their ‘permanent home’, they should inform SARS, in order to formally cease their South African tax residency and pay the necessary ‘exit’ charges, if applicable, since cessation of tax residency gives rise to a deemed disposal for South African capital gains tax (CGT) purposes.

If your children are living abroad and have not formally ceased to be South African tax residents, and are beneficiaries of a South African estate, they won’t be able to receive their inheritance in the usual way – they’ll only be allowed to transfer their inheritance offshore by making use of their discretionary and/or foreign investment allowances, provided their South African tax affairs are up to date.

However, if your children are no longer tax resident here, cash bequests, the cash proceeds of legacies and distributions from South African estates may be remitted abroad, provided there is a liquidation and distribution account bearing a reference number from the Master of the High Court. Your executor can remit an amount of up to R10 million without having to apply to SARS for a Manual Letter of Compliance. For amounts above R10 million, the executor will have to first obtain this letter from SARS.

SA TRUST STRUCTURES

A typical estate planning strategy to transfer wealth from one generation to the next is to structure your last will and testament in such a way that you leave your South African estate to a local trust (either inter vivos or testamentary). The idea is to minimise the value of your beneficiary estates, thereby reducing estate taxes and costs for the future generation/s as the trust structure can continue into perpetuity for the benefit of your beneficiaries.

While this strategy should serve local beneficiaries well, what are the consequences for beneficiaries who are tax residents of a foreign jurisdiction? Is creating a testamentary trust for a minor beneficiary living abroad still the right vehicle? Housing most of your wealth in a trust structure is generally regarded as ‘perfect planning’ from a South African perspective, but it may not be the best solution for an offshore trust beneficiary.

CONDUIT PRINCIPLE

The SA Income Tax Act allows for income or capital gains that have been vested in beneficiaries to be taxed in the hands of the beneficiaries instead of in the hands of the trust. This is also known as the ‘conduit principle’. Whereas a trust is subject to CGT at an effective rate of 36%, an individual will only pay a maximum effective rate of 18%.

However, from a South African tax perspective, the conduit principle won’t apply in relation to capital gains distributed to non-tax resident beneficiaries – the trust will pay CGT at the trust rate of 36% on the capital gains in South Africa.

Trustees should therefore caution against vesting income or capital gains in the hands of non-tax resident beneficiaries without understanding all the implications, which could have severe consequences for the offshore beneficiaries – who will typically also have a liability to taxation and obligations to declare such distributions to the tax authorities of the country they’re living in.

Taxes imposed by foreign jurisdictions present a further potential challenge. Civil law jurisdictions, such as Germany, generally don’t recognise foreign trusts, while the US, the UK and Australia could include the distribution as income or gains of the beneficiary and such distributions can become subject to punitive rates in those jurisdictions.

It’s also important to remember that trustees of a South African trust may not advance loans to non-resident beneficiaries – this would be a contravention of the South African exchange control regulations.

LOCAL AND OFFSHORE WILLS

Besides setting up a trust, another option for transferring wealth to the next generation is simply to bequeath assets directly to children in their personal capacity by way of a last will and testament. However, if you have offshore assets at your time of death, foreign inheritance or estate taxes and probate issues may be applicable. We therefore recommended that in addition to your South African will, you draw up an offshore will to deal with your offshore assets.

When you bequeath your offshore assets in your offshore will to a foreign trust, there may be similar consequences to those mentioned above for your offshore beneficiaries – it is imperative to have a thorough understanding of all the potential implications.

EXPERT ADVICE ESSENTIAL

Estate and tax planning have changed significantly over the past few years – it should be clear that one can’t attempt to minimise South African estate duty or offshore inheritance tax without considering the potential impact of your strategy on your offshore beneficiaries. There is no one-size-fits-all solution. Your personal circumstances, and therefore your estate plan, will be unique, and it’s crucial to seek professional advice – especially if you have assets in multiple jurisdictions.

If you need any information or assistance with any aspect of estate planning, please contact Christine Bornman at christineb@privatewealth.sanlam.co.za.