Taxation of Trusts Explained
Trusts in South Africa are taxed under the Income Tax Act, No. 58 of 1962 and the Tax Administration Act, No. 28 of 2011. There are key distinctions between how a trust’s income is taxed depending on whether the income is retained within the trust or distributed to the beneficiaries.
1. Tax on Income Retained in the Trust
When a trust retains income within the trust (i.e., does not distribute it to beneficiaries), the income is subject to a flat tax rate of 45%. This is a relatively high tax rate compared to the rates applicable to individuals, which is why trusts often aim to distribute income to beneficiaries rather than keep it within the trust.
This high tax rate on retained income exists to discourage trusts from accumulating income for long periods, thus ensuring that tax is paid on income either by the trust or by the beneficiaries. For individuals, the highest marginal tax rate is currently 45% (as of the 2024/2025 tax year), but this only applies to income exceeding a specific threshold. As a result, retaining income within the trust is often less tax-efficient than distributing it to beneficiaries.
2. Tax on Income Distributed to Beneficiaries
One of the key benefits of using a trust is the ability to distribute income to beneficiaries in order to take advantage of their lower tax rates. In South Africa, trusts that distribute income to beneficiaries are required to allocate the income according to the beneficiary’s share in the trust.
- Income Tax on Beneficiaries: If the trust distributes income to beneficiaries, the income is taxed in the hands of the beneficiaries at their individual income tax rates. This means that if a beneficiary is in a lower tax bracket than the trust, they will pay less tax on the income received. The beneficiaries must declare the income on their personal tax returns and pay tax according to the applicable tax rates.
Beneficiaries will be taxed based on the following income tax brackets (for the 2024/2025 tax year):- 0% on income up to R237,100
- 18% on income between R237,101 and R370,500
- 26% on income between R370,501 and R512,800
- 31% on income between R512,801 and R673,000
- 36% on income between R673,001 and R857,900
- 39% on income between R857,901 and R1,200,000
- 45% on income above R1,200,000
By distributing the trust’s income to beneficiaries who are in a lower tax bracket, the overall tax liability of the trust and its beneficiaries can be minimized.
3. Capital Gains Tax (CGT) on Trusts
In addition to income tax, trusts in South Africa are also subject to Capital Gains Tax (CGT). CGT is applicable when the trust disposes of assets such as property or investments and realizes a capital gain.
- CGT Rate for Trusts: Trusts are taxed on capital gains at a rate of 36%, which is higher than the CGT rate for individuals (which is 18%). However, if the trust distributes the capital gain to beneficiaries, the beneficiaries will be liable for CGT on the gain at the individual rate of 18%. This makes it advantageous to distribute capital gains to beneficiaries to reduce the CGT liability of the trust.
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Donations Tax and Estate Duty
In addition to income tax and CGT, trusts in South Africa may also be subject to donations tax and estate duty, depending on the nature of the assets and the transfer of those assets into the trust.
- Donations Tax: Donations made by a person to a trust may be subject to donations tax, which is levied at a rate of 20% on donations up to R30 million and 25% on donations exceeding R30 million. However, there is an annual exemption of R100,000 for donations made to a trust.
- Estate Duty: If assets are transferred into a trust, the assets are removed from the individual’s estate, which may reduce the estate duty liability when the person dies. However, if the person who created the trust (the settlor) retains control over the assets or benefits from them, the value of those assets may still be included in the settlor’s estate for estate duty purposes.
Key Considerations for Trust Taxation
- Trust Income Splitting
As mentioned, one of the primary tax advantages of a trust is the ability to split income between the trust and its beneficiaries. By distributing income to beneficiaries, the trust can reduce its tax liability by taking advantage of the lower tax brackets available to individual beneficiaries. This strategy can significantly lower the overall tax burden for the trust and its beneficiaries.
- Tax Planning
Given the complex tax implications, it is essential for trustees and beneficiaries to engage in proactive tax planning. The high rate of tax on retained income in a trust (45%) means that distributing income to beneficiaries is often more tax-efficient. Trustees should carefully consider the timing of income distributions, the beneficiaries’ tax positions, and the long-term goals of the trust.
- Tax Compliance
Trusts are required to comply with South Africa’s tax laws by filing annual tax returns and paying taxes on any income earned or capital gains realized. Trustees must ensure that the trust is in good standing with the South African Revenue Service (SARS) and that all tax obligations are met. Failure to comply with tax requirements can result in penalties and interest.
The Importance of Seeking Professional Advice With Trusts
Trust taxation can be complex, and the consequences of mismanaging tax obligations can be costly. For individuals and businesses considering setting up a trust, it is crucial to seek professional legal and tax advice to ensure the trust is structured in the most tax-efficient manner and complies with all relevant laws.
At Burger Huyser Attorneys, we specialise in trust law and can assist you in navigating the complexities of trust taxation. Whether you are looking to establish a trust, manage an existing one, or optimise its tax efficiency, our team is here to provide expert advice tailored to your needs. Contact us today to learn more about how trusts work and how we can help you structure your trust in the most tax-efficient way.
Contact Burger Huyser Attorneys, and book a consultation.
To speak to one of our experienced attorneys in South Africa for immediate assistance, contact us on the numbers below:
Randburg call 061 516 6878; Roodepoort call 061 516 0091; Sandton call 064 555 3358; Pretoria call 064 548 4838;
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DISCLAIMER: Information provided in this article does not, and is not intended to constitute legal advice. READ MORE
