An individual’s estate encompasses all the assets and liabilities amassed over their lifetime – and while estate planning is often perceived as preparation for end of life, the reality is that it has a vital role in planning in strategically structuring and managing assets during one’s lifetime. As such, it’s important not to view estate planning as a final step towards creating a financial legacy for your loved ones, but rather as a lifelong endeavour to ensure that your estate is optimally structured to achieve both your current goals and those you hope to achieve posthumously.
Determining estate liquidity
Liquidity within your estate plays a vital role in ensuring that you can meet the financial obligations and liabilities without jeopardising the inheritance intended for your loved ones. When undertaking liquidity calculations, it’s essential to consider potential tax, capital gains, and estate duty liabilities, as well as any outstanding debts in your estate. Keep in mind that when it comes to estate administration, the South African Revenue Service (SARS) and your creditors take precedence in being paid. Only after settling these obligations will the remaining balance in your estate, if any, be distributed among your heirs. Should your executor find that there are insufficient funds available in your estate to honour its liabilities, they may be required to liquidate assets, such as your primary residence, vehicles, a vacation home, or other valuable possessions, to cover the estate’s debts. This process can destabilise the financial security of your spouse and/or children, potentially leaving them in dire financial straits due to inadequate estate planning.
Ensuring beneficiary nomination
Beneficiary nomination is not a one-time exercise but rather an ongoing task that requires regular review and updates as your personal and financial circumstances change over your lifetime. To effectively achieve your objectives, it is important to understand how beneficiary nomination works in the context of different policy and investment types. For example, in terms of our law, children under the age of 18 have limited contractual capacity and are not able to inherit directly, which means that nominating a minor child as beneficiary on a life policy may not be ideal. However, as your children get older, you may want to revisit the beneficiary nomination on your life policies to ensure that your children can receive the proceeds directly.
In the case of retirement funds, while your intention may be to provide for your loved ones’ financial security, it’s important to remember that the distribution of these benefits is constrained by Section 37C of the Pension Funds Act. Unlike beneficiary nomination for life policies, the distribution of retirement fund benefits (including pension, provident, preservation, and retirement annuity funds) ultimately rests with the fund trustees whose responsibility it is to identify all your financial dependents and allocate the benefits accordingly, which may not align with your specific wishes. As such, staying informed and regularly revisiting your beneficiary nominations is essential for ensuring that your objectives are met.
Protecting the inheritance of minors
If you have minor children, it’s important to structure your estate to ensure that they are adequately provided for in the event of your passing. An effective mechanism for achieving this is by establishing a testamentary trust in terms of your will and naming your minor children as the trust’s beneficiary. In the event of your death, any assets intended for your minor children will be housed in the testamentary trust where they will be managed by the trustees until your children are old enough to manage their own affairs – thereby ensuring the safe custody of assets and financial security for your children.
Ensuring efficient estate administration
Effective estate planning also enables you to establish advanced mechanisms to expedite the winding-up of your deceased estate and to eliminate unnecessary delays. Basic steps such as ensuring the validity of your will, communicating the whereabouts of your original will, nominating a competent executor (and successive executor), and maintaining an estate planning file, can significantly enhance the efficiency of your estate’s administration.
Reducing tax liabilities
Further, estate planning offers the opportunity to structure your estate in a way that minimises tax obligations on death. Estate duty, which is tax levied on the transfer of assets from a deceased estate to beneficiaries, is charged at 20% on the dutiable amount of an estate up to R30 million and 25% on the dutiable amount exceeding R30 million. Simplistically, the dutiable value of your deceased estate is computed by adding your property’s value, deducting allowable expenses, and applying the Section 4A rebate. Note that, as a South African resident, you are liable for these taxes on your worldwide assets.
From an estate planning perspective, there are several mechanisms available to reduce estate duty liabilities and, in turn, maximise the inheritance for your loved ones. Compulsory retirement funds, such as pension, provident, preservation, and retirement annuity funds, are not considered part of your deceased estate and remain exempt from estate duty. Living annuities are valuable estate planning tools as, where beneficiaries have been nominated on the policy, they fall outside the estate and are not subject to estate duty. Domestic life policies can also be used effectively to make financial provision for your spouse and/or children while ensuring no estate duty is payable on the proceeds. Trusts can also offer an effective way to house growth assets and further reduce estate duty liabilities in your deceased estate, and we have elaborated on this below.
Structuring growth assets appropriately
In terms of the Income Tax Act, death is regarded as a capital gains event, which means that when an individual passes away, it is assumed that they have disposed of their assets at their market value on the date of death. The Act offers a one-time exclusion of R300,000 in the year of death. However, any amount exceeding this exclusion is subject to capital gains tax (CGT), with an inclusion rate of 40%, calculated based on the deceased’s marginal tax rate.
To prevent unnecessary CGT charges upon death, effective estate planning can help structure growth assets such as property or shares in a way that reduces tax liabilities within your deceased estate. One valuable strategy for managing growth assets, especially those intended for future generations, is to create an inter vivos trust during your lifetime. As the trust’s founder, you would either donate or sell the asset to the trust in the form of a loan account and subsequently relinquish control of the asset. The trustees would then manage the assets on behalf of the nominated beneficiaries. Transferring a growth asset, such as a vacation home, to a living trust ensures that all future growth on the property remains within the trust, and only the loan account to the seller becomes payable upon the seller’s death – thereby effectively reducing estate duty.
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