An important part of any estate planning exercise is to put mechanisms in place to reduce one’s estate duty liability to ensure that the financial legacy intended for your loved ones is maximised and protected for their future use. Thankfully, there are a number of mechanisms available to limit the impact of estate duty in the event of your death although, importantly, none of these mechanisms should be considered in isolation but rather as part of a broader tax planning framework. In this article, we explore 5 effective estate planning instruments that can be employed for these purposes.
Invest in a retirement annuity
A retirement annuity is an approved retirement fund which is regulated by the Pension Funds Act. This vehicle effectively allows investors to save for retirement using pre-tax money while restricting access to the funds before age 55. New generation RAs are typically housed on LISP platforms and provide more investment flexibility including the ability to select and change the underlying investment strategy, asset allocation and contribution structure. Over and above providing tax deductions on the contributions, RA investors can enjoy further tax benefits in that no capital gains tax, dividends withholding tax or income tax on the investment growth within a retirement fund is payable.
In the event of your death, the funds held in your retirement annuity do not form part of your deceased estate and are not included when calculating your estate duty liability or executor’s fees – meaning that your RA effectively continues to provide tax benefits even after your death. In the event of your passing, the funds held in your RA will be distributed to your financial dependants at the discretion of the fund trustees, and this process is expressly provided for in terms of Section 37C of the Pension Funds Act. So, while you are permitted to nominate beneficiaries to your RA, your trustees are required to first identify those family members and/or loved ones who are financially dependent on you, and then to distribute in accordance with their respective needs.
Special considerations: While the funds held in your retirement annuity are, generally speaking, protected from your creditors, keep in mind that there are a number of exceptions. Certain deductions are permissible in respect of arrear contributions and amounts due and payable in terms of the Divorce Act and the Maintenance Act.
Use life insurance effectively
In terms of Section 4(q) of the Estate Duty Act, all assets that accrue to your surviving spouse – either in terms of your Will or in accordance with the laws of intestate succession – are deductible from the gross value of your deceased estate and will therefore be excluded for estate duty purposes. As such, by nominating your surviving spouse as the beneficiary to your domestic life insurance policy, the proceeds of the policy will be paid directly to your spouse in the event of your passing. In bypassing your deceased estate, no estate duty nor executor’s fees will be payable on these amounts. That said, life cover can be used effectively in your estate plan to ensure that any estate duty liability can be covered without having to realise any assets intended for your heirs. In structuring a life insurance policy earmarked for these purposes, you would need to nominate your estate as the beneficiary to the policy. However, keep in mind that the proceeds from such a policy would be considered deemed property in your estate and would be included in the estate duty calculation, and you will need to adjust the cover amount accordingly.
Special considerations: For estate duty purposes, a spouse includes any partner in a marriage or customary union recognised in South Africa, any unions recognised as marriages under tenets of religion, an any same sex or heterosexual union which the SARS Commissioner is satisfied is deemed to be permanent. If you are cohabiting with your life partner, you will therefore need to take steps to ensure that your union is viewed as permanent and this can include signing of affidavits, entering into a cohabitation agreement, providing proof of joint ownership of property, amongst other things.
Transfer growth assets into an inter vivos trust
An inter vivos trust can be used effectively to house assets such as fixed property or business interests so that the growth on those assets takes place within the trust structure and not within your estate, which in turn will have the effect of reducing your estate duty liability. In order to use an inter vivos trust optimally for these purposes, you can sell the growth assets, such as a family holiday home, to the trust with the loan account forming part of your estate, although the loan amount will reflect at the selling price of the asset and not the value of the asset at death. As an estate planning tool, an inter vivos trust used for these purposes is ideal for preserving assets that are likely to pass from generation to generation, such as a family farm or holiday house.
Special considerations: If you elect to make use of an inter vivos trust to reduce your estate duty liability, it is important that you fully appreciate the consequences of transferring property into the trust. Once you have sold an asset to the trust, it becomes the property of the trust and subject to the control of your trustees. As such, it is important to ensure that you choose your trustees carefully, and that the trust deed clearly sets out the mandate of your trustees.
Use your donations tax exemptions
If you have an inter vivos trust set up, you can further reduce your estate duty liability by using your annual donations tax exemption of R100 000. If you are married, you and your spouse can donate a combined amount of R200 000 per tax year without attracting donations tax which is levied at a flat rate of 20%, while at the same time ensuring that the growth in the capital is confined to the trust structure.
Special considerations: Although this mechanism can be an effective estate planning tool, it is important to ensure that you do not need the capital to provide for your living expenses as, once the capital is donated to the trust, it becomes trust property and subject to the control of the trustees.
Set up a testamentary trust for your minor children
In terms of our legislation, children under the age of 18 do not have contractual capacity and are not capable of inheriting. If you bequeath cash directly to your minor child, these funds will be administered by the state-run Guardian’s Fund on your child’s behalf until she reaches the age of majority. Where assets such as fixed property are bequeathed to your minor child, it is likely that their legal guardian will be charged with administering the asset on the child’s behalf until she reaches age 18. Neither situation is ideal which is why many estate planners make effective use of a testamentary trust to circumvent these potential situations. By setting up a testamentary trust in terms of your Will and nominating the trust as the beneficiary of those assets intended for the benefit of your minor children, you can ensure that these assets will be transferred directly to the trust in the event of your passing
Special considerations: To ensure that the trust assets are managed in the best interests of your children, make sure that your Will clearly sets out the duties and responsibilities of your trustees, and that your nominated trustees are trustworthy. Ideally, consider nominating three trustees, one of whom is an independent trustee with fiduciary experience as the management of trusts is a highly specialised area.
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