Protect your legacy:
family trusts under the spotlight

A discretionary trust, founded by one of the family members, can play a vital role in protecting the family legacy in line with the overall family plan and long-term objectives. The trust deed should describe these objectives as well as the role the trust will play in achieving them.

The family members can be the nominated beneficiaries, including the second and subsequent generations and any further trusts created for their benefit. The founder can appoint trustees who know the family dynamics and the individual family members, including their preferences (and even their vices). It is, however, crucial to also appoint an independent trustee with the necessary skill and knowledge to manage trust affairs.

Alongside these trustees, individuals can be appointed from the team of family advisers, which usually includes an accountant, family lawyer, portfolio manager, wealth manager, fiduciary specialist and tax adviser. They can ensure that the family plan is executed over generations in line with the family’s long-term objectives, and that everyone involved understands these objectives. Aspects that need to be considered include:

• The family value system
• Financial literacy of family members
• The family history
• Building the family legacy
• Philanthropic intent
• Relocation of family members.

Trustees to represent the next generation, who can be one or more of the founder’s children, can be named in the founder’s will or in the trust deed. The team of family advisers should ensure the children receive trustee training and understand the nature and workings of a discretionary trust.

Challenges experienced in practice include the second generation wanting their share of the inheritance or ‘pot of gold’ upon the death of the surviving spouse of the first generation, or the spouses of the second generation exerting an influence. This can lead to family friction, which often results in trusts being terminated.

To ensure that the trust will continue into perpetuity and won’t be terminated by the second generation due to family dynamics, the following aspects need to be taken into account:

• Does each of the children understand their role in the family?
• Are there family members with special needs?
• What stumbling blocks do the family members foresee?
• Are the children prepared to be responsible and to take accountability?
• Is there a need for a life or business coach?
• What are the children’s future plans – do they plan to work or live abroad?
• What are the needs of the grandchildren (the third generation)?

In helping to address these issues, the trustees play a critical role in ensuring that the trust continues for generations to come.

ADVANTAGES OF A FAMILY TRUST

The advantages of setting up a discretionary trust include the following:

• The family wealth will be vested in the trust and will no longer belong to the founder.
• The trust assets won’t form part of the founder’s estate for the purposes of estate duty and capital gains tax (CGT), although the family should seek expert advice on the mechanisms of transferring assets into a trust, such as a loan or donation, as well as the potential tax consequences.
• The trust assets won’t be bequeathed to individual family members to do with as they wish – no single beneficiary has any right to claim a share of the family assets vesting in the trust and can therefore not squander it.
• The Board of Trustees will be able to look after the welfare of subsequent generations by using trust income and capital to their benefit, for example, for further education, travel or setting up a business.

It’s important to note that the founder of the trust can leave a letter to the trustees expressing his or her wishes in more detail regarding looking after the general welfare of the trust beneficiaries. This could include buying a beneficiary a small car when he or she turns 18, and providing funding for private school education and tertiary education up to a certain level. These wishes aren’t legally binding on the trustees but will be considered by them.

If there is already a family trust in place, the team of advisers should ascertain whether it will serve the long-term family objectives and if so, whether it is being managed correctly. If necessary, the team can regularise the management and administration of the trust to ensure the trust assets are protected. It’s also important to ensure that the trust deed makes provision for the trustees to create further sub-trusts or to create sub-accounts for the benefit of the trust beneficiaries.

EDUCATIONAL AND CHARITABLE TRUSTS

A trust can also be set up as part of a family plan to provide exclusively for the education of next generations. Funds can be set aside in the trust for this purpose, with guidelines in the trust deed and in a letter of wishes as to how they should be applied.

If a family regularly donates to charities, they should consider establishing a charitable trust into which donations can be channelled from both within and outside the family. A charitable trust can obtain tax exemption if its objectives are aligned with one or more qualifying listed public benefit activities. This could mean donations to the trust won’t be subject to tax, and that donations could be tax deductible in the hands of the donors, subject to certain limits.

The team of family advisers should regularly review trusts set up for any of these purposes to ensure they continue to serve the long-term plan, remain up to date, and comply with changes in legislation and the regulatory environment.

BENEFICIARIES LIVING ABROAD

While a family trust should serve local beneficiaries well, what are the consequences for beneficiaries who are tax residents of a foreign jurisdiction?

It’s important to note that from a South African perspective, the conduit principle (shifting the tax burden to the beneficiary) will not apply with regard to taxable income and a capital gains distribution made to a non-SA tax resident beneficiary – the trust will pay CGT at the effective trust rate of 36%. Capital gains distributed by a South African trust to a non-SA tax resident beneficiary will therefore remain fully subject to South African CGT within the trust. As of 1 March 2024, this is also applicable to income distributions, which means that income will also be fully taxed within the trust.

Punitive taxes imposed by some other jurisdictions present a further potential challenge. If a beneficiary is living in the US, UK or Australia and receives distributions from foreign trusts, including South African trusts, then those countries may hit the beneficiary with punitive taxes.

STRUCTURING OFFSHORE ASSETS

Since the investment landscape has changed and more people are investing abroad, it’s important to structure your offshore estate correctly. In terms of South African exchange control regulations, a South African trust is not permitted to hold offshore assets unless it is by way of an asset swap or if special dispensation is granted by the South African Reserve Bank. The same objectives can be achieved for your offshore-based assets by setting up a dry trust (offshore trust) to receive the offshore estate on the death of the testator or testatrix.

By executing an offshore will for your offshore assets and by structuring it in such a way as to leave your offshore estate to the dry trust for the benefit of the trust beneficiaries, you will peg the value of their estates for estate duty purposes and preserve the wealth for the next generation and for generations to follow.

EXPERT ADVICE

It should be clear that protecting your legacy by establishing a family trust can be fraught with complexities, especially when beneficiaries live abroad. There is no one-size-fits-all solution. Everyone’s personal circumstances are unique and it’s crucial to seek professional advice in order to ensure a smooth transfer of your wealth to the next generation.

If you need assistance with any of the above, including trustee training for the next generation, contact Christine Bornman at christineb@privatewealth.sanlam.co.za.