Disadvantages of a Business Trust in South Africa

A business trust in South Africa is taxed as a separate person under section 2 of the Income Tax Act 58 of 1962, with retained income taxed at 45%, capital gains included at 80%, and donations subject to donations tax at 20% under section 54. Section 7C attributes interest back to lenders to the trust. Unlike a company, a trust does not provide limited liability to its trustees, and the trust’s borrowings, share sales, and operational decisions are constrained by the Trust Property Control Act 57 of 1988 and the trust deed itself.

How a Business Trust Works in South Africa

A business trust is established by a trust deed and registered with the Master of the High Court under the Trust Property Control Act 57 of 1988. The trust holds the operating business assets — usually shares in a trading company — and the trustees run the business for the benefit of the named beneficiaries. Most business trusts are used for family succession over a going concern, ring-fencing operating risk from the operating founders, or creating a long-term ownership vehicle for a family enterprise.

The Tax Disadvantages

Income tax at 45% on retained income

A trust is a separate “person” for tax under section 2 of the Income Tax Act, with retained income taxed at 45% versus 27% for a company. Distributed income is taxed in the beneficiary’s hands, but undistributed income stays in the trust at 45%. Any cash the trust does not distribute each year is taxed at near the top marginal rate — a material disadvantage for a business that needs to retain earnings.

Capital gains tax: 80% inclusion

Capital gains realised by the trust are included at 80% and taxed at the trust’s 45% rate, producing an effective 36% CGT rate on the gain.

Vehicle	CGT inclusion	Tax rate	Effective CGT rate
Business trust	80%	45%	36.0%
Company (Pty Ltd)	80%	27%	21.6%
Natural person	40%	Marginal rate	Up to 18.0%

Section 7C attribution on loans to the trust

Section 7C, inserted in 2017, attributes interest on a loan from a connected person to a trust back to the lender at the official rate, even if the loan is interest-free. Any shortfall is treated as a donation and triggers donations tax at 20%. For a business trust where the founder has lent acquisition or working-capital funds to the trust, this is one of the most material tax disadvantages.

Section 7(3) and donations tax

Section 7(3) allows SARS to attribute income back to the donor if the arrangement is one of a series of steps aimed at avoiding tax. The common-law “sham trust” doctrine is a separate basis on which a court can disregard the trust’s separate existence if the trustees do not exercise independent discretion. Donations to a trust by a natural person are subject to donations tax at 20% under section 54 — assets injected on formation are typically donations, even when the donor is also a beneficiary.

The Structural and Legal Disadvantages

No limited liability for trustees

Under the Companies Act 71 of 2008, a company is a separate legal entity with limited liability for its shareholders, who risk only their invested capital. A trust is not a juristic person in that sense. Trustees are personally liable for the trust’s debts if they act outside the trust deed or fail in their statutory duties under the Trust Property Control Act. In a company, shareholders’ risk is capped at their investment; in a trust, trustees are exposed personally.

Deed lock-in, debt, and selling the business

Trustees must act jointly in terms of the trust deed and the Act. Major decisions (sale of a significant asset, change of beneficiary, amendment of the deed) usually require a trustees’ resolution or court approval, and the deed is hard to amend after establishment. Banks are cautious about lending to a trust because it has no share capital and the trustees are personally liable, so lenders look to the trustees’ personal balance sheets or a suretyship. Selling the operating business typically requires winding up the trust or transferring its assets into a new acquisition vehicle.

Trustee duty, fiduciary standard, and duty to wind up

Trustees are held to a fiduciary standard and must act in the best interests of the beneficiaries, not the founder. If trustees follow the founder’s instructions without independent judgment, the trust may be found to be a sham. The trust must also be wound up at the end of its term — typically the death of the last surviving beneficiary — which triggers a final capital gain. A company has no equivalent forced wind-up date.

The Administrative and Cost Disadvantages

A trust must keep minutes of trustee meetings, maintain proper accounting records, and have its annual financial statements audited or independently reviewed. An annual trust tax return (ITR12T) must be filed with SARS, and provisional tax payments are required if the trust earns taxable income. Master’s fees are payable on registration and on lodgement of the annual accounts.

When the Disadvantages Can Be Designed Around

A business trust is sometimes paired with a holding company: the trust owns the holding company, which owns the operating business. This gives the trust its succession and creditor-protection benefits while the company layer handles operating decisions and gives the operating business limited liability. Loans from the founder can be made interest-bearing at the official rate to avoid Section 7C attribution, and independent professional trustees can reduce the sham trust risk. Burger Huyser Attorneys’ Trusts practice advises on formation and restructuring alongside the firm’s Commercial Law and Wills & Estates practices.

When a Company Is the Better Choice

For most operating businesses, a Pty Ltd offers lower tax on retained income (27%), limited liability for shareholders, and flexible share and equity arrangements that a trust cannot match. The trust is most defensible where the business is profitable and the owners want to distribute income to beneficiaries each year (so the 45% retention rate is not triggered) and where estate-planning benefits outweigh the structural disadvantages. The company is the default; the trust is a deliberate succession or risk-ringfencing choice. Burger Huyser Attorneys’ Trusts and Commercial Law teams can work through the comparison in a single consultation.

If you are weighing a business trust against a holding company, or considering restructuring an existing trust, Burger Huyser Attorneys’ Trusts team can help you work through the income tax, capital gains, and Section 7C exposure and recommend a structure that fits the operating model you actually have. Contact the head office on 011 888 0246 or visit burgerhuyserattorneys.co.za to book a consultation.

Frequently Asked Questions

What is the main tax disadvantage of a business trust in South Africa?

The 45% income tax rate on retained income, compared to 27% for a company, plus an effective 36% CGT rate versus 21.6% in a company. Reinvesting profits inside a trust is structurally more expensive than doing so inside a company.

Does Section 7C apply to a business trust?

Yes. Section 7C of the Income Tax Act 58 of 1962 applies to any loan or advance from a connected person to a trust, regardless of trust type. Interest is attributed back to the lender at the official rate, with any shortfall treated as a donation subject to donations tax at 20%.

Can a business trust have limited liability?

No. A trust is not a separate legal entity in the way a company is. Trustees are personally liable for the trust’s debts if they act outside the trust deed or fail in their fiduciary duties — the most fundamental structural disadvantage of a business trust compared to a company.

Can a business trust distribute all its income to avoid the 45% tax rate?

In principle yes, but the beneficiaries must be named in the deed and the trustees must exercise genuine discretion, or the distribution can be unwound under the sham trust doctrine or Section 7(3). A trust that distributes all its income loses the capital accumulation benefit a company can achieve at 27%.

How does a business trust compare to a holding company for a family business?

Many family businesses use a holding company inside the trust. The trust owns the holding company, which owns the operating business, giving the trust its succession benefits while the company layer gives the operating business limited liability. The main drawback is the extra compliance layer and cost.

Is a business trust still useful after Section 7C?

Yes, but its uses are narrower than before 2017. A business trust is still useful for family succession over a going concern, for ring-fencing a specific asset from operating risk, and where founders can plan around the 45% retention rate.

Can I close a business trust if it is no longer working?

Yes — voluntarily under the trust deed or by application to the Master of the High Court. Winding up triggers a final capital gain and the distribution of assets to the beneficiaries, with their own tax consequences. The trust deed should be reviewed by an attorney before any wind-up.