Can a Trust be a Tax Effective Investment Tool

Generally trusts are taxed at the highest income tax rate of all South African tax payers. The income tax rate is set at 40% while the capital gains tax inclusion rate is set at 50%. This effectively translates to a 20% tax on capital gains made! Is there then a place for property trusts?

Not all transactions are taxed the same and not all trusts are taxed the same. Below we are going to explore some of the principles applied in using a trust as a property investment vehicle.

Special Purpose Vehicle

Some property investments may entail purchasing property and selling it again within a short space of time. Perhaps through employing sophisticated marketing methods or by restoring the property before sale, one may be able to realise a profit of such a property in a relatively short space of time.

In trust law there is an exemption against being taxed at the full income tax rate for trusts. In the event where income is earned and distributed to the beneficiaries of the trust in the same financial year, the income is taxed in the hands of the beneficiaries and not the trust. This means that the tax on the income will be at the income tax rate of the beneficiaries and not that of the trust.

Working out different scenarious will guide an investor to determining whether he should attempt the project in the name of a trust or not. The capital gains tax of the trust may sometimes be less that than the income tax payable in the hands of the beneficiaries. This will however depend on how many beneficiaries will benefit from the income, and whether they also earn other taxable income.

Often investors choose to undertake certain projects in a group. If such a project is tackled in a Partnership or Joint Venture there may be additional risk for the partners if one partner goes insolvent in the process. Protection against these risks can be afforded in the shelter of a trust. In appropriate cases, using a trust as a Special Purpose Vehicle may truly be like having your cake and eating it.