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  • The Trust as a Planning Vehicle - not Dead Yet

The Trust as a Planning Vehicle - not Dead Yet

25 February 2016

By Allan Heynen, Director of BDO Wealth Advisers

Trustees and individuals using trusts as financial and tax planning tools may be forgiven for thinking that they have the Sword of Damocles hanging over them as far as the future of trusts is concerned.

There is hardly a year that goes by that mention is not made in the Budget Speech about introducing further measures to limit the use of trusts. This year was no exception. So why would anyone even still consider using a trust in their financial or tax planning?

In the run-up to this year’s Budget there was much speculation about the conduit principle being removed, whereby taxable income earned in a trust may be distributed and allocated to various beneficiaries, to be taxed in the individuals’ personal hands. Whilst this proposal is still on the table, it has not been implemented yet and was not referred to in the Budget.

What was announced was a higher Capital Gains Tax (CGT) rate for all persons, including trusts. The effective CGT rate for trusts increases from 27.3% to 32.8%. However, if Capital gains are distributed to trust beneficiaries, the maximum CGT rate in the individual’s hands is 16.4% (increased from maximum 13.7% previously).

There are still some very clear advantages to using trusts as a planning vehicle:

  1. There is no tax on the accumulation of wealth within the trust, unlike estate duty which is applicable in an individual’s hands. The combined tax rate of CGT and death duty for an individual is still higher than the CGT tax rate within trusts.
  2. The conduit principle, for as long as it remains, provides a tax efficient option for distributing income and capital gains between various trust beneficiaries.
  3. A trust provides a mechanism for trustees to distribute assets to beneficiaries without donations tax, an option which would not be available to a settlor directly without paying donations tax of 20% on the transfer of assets.
  4. Trusts provide tax liquidity solutions on death. On death, CGT is payable on the growth of assets held in an individual’s hands, whether the asset is disposed of or not. In a trust, CGT is only triggered on distribution or sale of the asset, hence matching tax liability to cashflow. For example, a family holiday home intended to be held for multiple generations would be better held in trust. CGT on the growth of the asset would only apply when the asset was sold. Conversely, if the holiday home was held in the parent’s name and transferred to the next generation of children upon death of the parent, CGT would apply to the growth of the property, without any cashflow being available from the property to fund the CGT tax liability when the property is transferred to the children.
  5. From a planning point of view, trusts continue to offer protection of assets against creditors and a structure for administering assets for beneficiaries who may not otherwise be competent enough to manage their own financial affairs. There are some proposals included in the budget review to limit taxpayers’ ability to transfer wealth which are not being implemented but are highlighted for consideration:
    1. To ensure that assets transferred through a loan to a trust are included in the estate of the founder at death;
    2. To categorise interest-free loans as donations; and
    3. To limit the use of income splitting and other tax benefits.

These proposals have been tabled before and they are arguably not the easiest to implement without resulting in unintended consequences.

These proposals should not however frighten off planners from applying the use of trusts in the overall financial and tax planning. Correctly applied and structured, trusts still offer significant long-term benefits.