Section 7C and Estate Planning

Section 7C and Estate PlanningIntroductionThe most basic definition of estate planning is –“getting your things in order”.The need to undertake an estate planning exercise is frequently triggered by,a personal-life-event,such as a marriage, the birth of a child, or the death of a partner. On another occasion the need toreviewyour estate plan can be triggered by a change inlegislation. For individuals who have transferred assets to a trust by way of an outstanding, interest free or low interest loan account, –such an estate planning moment has just occurredwith theintroduction of section 7C into the “deeming provisions”also referred to as “the attribution rules”intheIncome Tax Act.How section 7C worksSection 7C deems the interest foregone because of a low-interest or no-interest loan to be a donation, to the trust subject to donations tax in the hands of the lender.An estate planning exercise sometimes involves the sale of long-term growth assets such as an immovable property or a share portfolio, to a trust. The trust doesnot necessarily have the funds to pay for the property so the purchase price is left outstanding on loan account, due to the planner. By exchanging a long-term growth asset for an interest-free or low-interest loan account the value of the individual’s estate is “pegged” for estate duty purposes. SARS have, understandably, never been happy with the loss of estate duty occasioned by these arrangements and after severalfalse starts,have come up with section 7C whichwillcome into effect on 1 March 2017. The section will apply to all loans whichare in existence, or come into effect, on or after that date. The value of the donation is an amount equal to the difference between the interest incurred by the trust and the interest that should have been incurred by the trust had interest been chargedat the “official rate of interest” The “official rate of interest” is the rate used for determining fringe benefits tax in terms of the 7thschedule to the Income Tax Actand is currently 8%p.a.Example1A sells an asset worth R10 million to the AAA FAMILY TRUST. The purchase price is left outstanding as an interest free loan. On the last day of the year of assessment the interest foregone by the trust will be R800000.00 (R10000000.00 x 8%)Calculation ofdonations tax R800000.00(interest foregone)–R100000.00 (annual donations tax exclusion ifit hasn’t been used elsewhere)= R700000 x 20% (donations tax rate)=R140000.00. The donations tax payable by A each year.Example 2B sells an asset worth R10 million to the BESTEVER FAMILY TRUST.The trust charges 6% interest on the outstanding loan account. On the last day of the year of assessment the interest foregone by the trust will be R200000.00 (R10000000.00 x 2% (8%-6%)Calculationofdonations tax R200000.00(interest foregone)–R100000.00 (annual donations tax exclusionifit hasn’t been used elsewhere)= R100000 x 20% (donations tax rate)=R20 000.00.The trust willhowever pay R246000.00 (R600000.00 x 41%) in income tax on the interest earned.B will also have paid R416949,15 in income tax on the R1016949, 15 in income needed to pay the R600000.00 in interest due to the trust.Total cost to B is (R20000.00 + R416949.15) R436949 and let us not kid ourselves B will feel the cost of the interest borne by the trust. The real cost is therefore (R436949 + R246000.00) R682949 in taxes and the R600000.00 loan repayment R1282949.00ExclusionsThe provisions of section 7C do not apply to amounts owing by all trusts. Loans owing by the following trusts will not be affected;(a)Atrust approvedas aPublic Benefit Organisation.(b)The loan was provided in return for a vested interest in the trust,and all assets and income vest in the beneficiaries of the trust.(c)A trustWhichis a” paragraph (a) special trust” i.e. a trust established for the sole purpose of benefiting certain disabled persons.(d)Where the loan was used in part or in full for the acquisition of the lender’s or the lender’sspouse’sprimary residence.(e)Certain non-arms-length transactions taxed in terms of section 31 of the act.

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