What is a special trust?

A special trust is a specific type of trust created to take care of the financial needs of certain individuals. It is taxed more favourably under the Income Tax Act. A special trust can be established in one of two situations:

• To provide for a physically or mentally challenged person, during your lifetime, or after your death;

• To provide for your minor child after your death.
  
  

What are the different types of special trusts?

Special trusts are defined in the Income Tax Act, and there are two main types:

• Type A Trusts

These trusts are for individuals with a severe mental or physical disability. The trust is generally set up for one beneficiary only, but if there are more, they must be related to each other either by blood or marriage.

The Income Tax Act sets out the qualifying criteria:

The beneficiary’s disability must prevent them from earning enough money to support themselves or manage their own finances.

A medical specialist must diagnose the beneficiary’s medical condition, which they must have had for at least 12 months and the condition must be irreversible.

Once the initial medical evidence has been accepted for registration, the trustees are generally not required to resubmit medical reports annually, but the qualifying status must be maintained and the South African Revenue Service (SARS) may call for updated evidence.

• Type B Trusts

These trusts are set up for minor children and created through a will. Trusts created through a will are also known as testamentary trusts.

Assets are held in trust until the minor turns 18, although this age might be extended in the will. If your will does not make provision for this type of trust, any inheritance left to your minor children would go into the Guardian’s Fund, which is administered by the Master of the High Court.

Establishing a trust ensures that funds are managed in line with your wishes for your children. There may also potentially be greater growth in the assets compared to leaving the money in the Guardian’s Fund.

How are special trusts taxed?

Type A special trusts are taxed in the same way an individual or natural person is taxed, on a sliding scale from 18% to 45% depending on the income, instead of the flat rate of 45% applied to most other trusts.

Type A special trusts also qualify for the annual capital gain exemption on investments and the exemption on the sale of a primary residence. They are not eligible for any primary tax rebates, medical scheme fees tax credits, or the annual interest exemptions that apply to a natural person.

Type B special trusts are also taxed as natural persons, with income tax on a sliding scale from 18% to 45%, but these trusts are not eligible for the same capital gain tax concessions as a Type A trust.

How do you set up a special trust?

First, identify the beneficiaries:

• Type A special trusts can have beneficiaries unrelated to you and require detailed medical reports.
• Type B special trusts can only have beneficiaries that are your or your relative’s minor children.

Then determine how the trust will be established:

• Type A special trust can be set up either as an inter vivos trust created during your lifetime or as a testamentary trust created in your will.
• A Type B Special Trust can only be a testamentary trust.

A trust deed is the legal foundation for the trust. In the case of a testamentary trust, the will serves as the trust deed. For an inter vivos trust, the trust deed must be drafted by a qualified attorney and include:

• The reason for establishing the trust;
• The names of the trustees and the beneficiaries;
• How assets are to be distributed to beneficiaries;
• The duties, powers and responsibilities of the trustees;
• Provision for the appointment, removal and remuneration of trustees;
• Rules for managing, investing, and distributing the trust assets and income.

The trust must be registered with the Master of the High Court. The trust deed and other supporting documents are filed with the Master of the High Court. Once they are satisfied that all the requirements are met, Letters of Authority are issued to the appointed trustees, allowing them to act on behalf of the trust.

The trustees must also register the trust with SARS under the Income Tax Act. They must submit an IT77TR form, along with medical reports on the beneficiaries’ disability as well as the fact that it prevents them from sustaining themselves financially or managing their own affairs.

Who will be the trustees?

As the trust’s founder, you have the authority to appoint trustees. Some factors to consider:

• Select an odd number of trustees to avoid decision deadlock;
• Include at least one independent professional trustee as well as a family member who understands the beneficiary’s needs;
• Ongoing trustee fees which are generally calculated annually as a percentage of the trust’s assets and in accordance with what the Trust Deed Provides;
• Succession planning if a trustee is unable to serve at some point in the future.

How is a special trust funded?

This depends on the type of trust:

• Testamentary trust: you specify in your will which assets are to be transferred into the trust. The executor will manage this when finalising your estate. You can also take out a life cover policy with the trust as beneficiary so that the proceeds are paid to the trust on your death.
• Inter vivos trust: you can donate a certain amount tax free each year to the trust, or double this amount each year if you are a married couple. Any amounts exceeding that will attract donations tax. You can also sell assets or property to the trust and create a loan account owed to you by the trust.

When does a special trust cease?

A Type A trust ceases at the start of the tax year in which the last beneficiary dies. The trust deed can provide for the trust to continue, but it will no longer qualify as a Type A trust and will be taxed in the same manner as other trusts.

A Type B trust can extend beyond the beneficiaries’ age of 18 if this is specified in the will. Once the youngest beneficiary turns 18, the trust will no longer qualify as a Type B Trust and will be taxed in the same manner as other trusts.  

This article was written by Sylvia Walker, freelancer writer, financial planner and author. The article was reviewed by Usaid M. Razzak, Litigation Associate, Van Deventer & Van Deventer Incorporated