Buying or taking over a trust

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Tuesday, 08 July 2008 11:22

Red lights (should) flash after judgement

Up to 2002, it was fairly standard (one can even say fashionable) for owners of fixed property in general and residential fixed property in particular not to buy it and have it registered in their own names.

The popular thing to do then was for a trust or a company or close corporation (CC) to buy the property as its only asset. When one subsequently wanted to dispose of the property, the company, CC or trust was sold to the new owner, and since the fixed property belonged to the company, CC or trust, the new owner gained control of the fixed property.

The rationale was to save transfer costs on the fixed property, mainly transfer duty.

This practice was effectively ended with the amendment of sec. 2 of the Transfer Duty Act1 (“TDA”) by the Revenue Laws Amendment Act of 2002.2

The changes had the effect that any transaction as described above will constitute a transaction as defined in sec. 1 of the TDA upon which transfer duty will be levied in accordance with sec. 2 of the TDA.

While there have always been diverging views about the practice of ‘buying’ and ‘selling’ trusts, the prudent view has been that one has to keep the essentials of a valid trust in mind.

These are:

•The founder must intend to create a trust;

•The intention must be expressed in such a way that it creates an obligation;

•The property subject to the trust must be defined with reasonable certainty;

•The trust object must be defined with reasonable certainty; and

•The trust object must be lawful.3

In a recent case in the Tax Court in Johannesburg4 the fourth essential (in italics above) was extensively considered and applied. The court found for SARS against a taxpayer who ‘bought’ a trust owning a fixed property where the transaction took place before the amendment referred to above.5 It is not inconceivable that SARS may be looking at other cases dating from before the amendment, based on this judgement.

Although the facts are, to an extent, unique to the particular case it is the reasons for the judgement that have implications for the ‘buying’ and ‘selling’ of trusts per se, regardless of whether the trust holds fixed property.

Mr X entered into an agreement with the T Trust (represented by Mr A.T) in December 1997 to buy a certain fixed property from the trust. This agreement was cancelled on 10 February 1998. On 11 February 1998 the same parties and Mr J.T as the original donor entered into a new agreement whereby Mr A.T and Mrs M.T as the beneficiaries, and Mr A.T, Mrs M.T and Mr F as trustees, agreed to renounce any benefit as beneficiaries and resign as trustees of the T Trust. Mr X, a Mr A and a Mr D were then appointed trustees and Mr X and his son, Mr A.X nominated as the only income and capital beneficiaries of the T Trust. In return Mr X raised a bond over the property and used the amount raised to repay the holders of the loan accounts in the trust, as well as an amount to the donor, Mr J.T.

SARS issued an assessment on 4 December 2002 for transfer duty at a rate of 10%6 on the transaction. The taxpayer, the T Trust, objected on the grounds that no transfer of property and therefore no transaction as defined in section 1 (prior to the 2002 amendment) of the TDA had taken place.

To this SARS replied in its “Statement of Grounds of Assessment” that the agreements between the parties constitute a transaction, that if viewed holistically it constitutes a scheme tantamount to the disposal of the property to a new trust with other trustees and beneficiaries, that the actions were designed to avoid the payment of transfer duty and are tantamount to concealing the real character of the transaction, and, in the alternative, that Mr X was involved in a transaction acquiring immovable property and that transfer duty should therefore be levied.

As was pointed out above, all of this (except the italicised words in the previous paragraph) is now of academic interest because of the 2002 amendments to the TDA under which a transaction like this is now without doubt a transaction on which transfer duty will be levied.

However, the reasons for the judgement raise a number of points which may have far-reaching implications for anyone thinking about ‘buying’ or ‘taking over’ any trust.

The court found that the beneficiaries of the T Trust, with the co-operation of the trustees and the donor, in fact varied the trust and used the trust property to set up a new trust that differed from the old one.7

The court bases this on the principles of trust law that require a trust to have an ascertainable object and purpose.

It finds that the donor, Mr J.T, formed the trust for the benefit of his son Mr A.T, Mr A.T’s wife Mrs M.T and their children to be born or adopted8, and that this object and purpose had come to an end when the beneficiaries were substituted. The court then goes further and states that because this happened, a new trust was formed with the same trust property. 9

The court finds that:

“The net effect of the above is that the principle object and purpose of the original trust as envisaged by the donor had been terminated in that a different ascertainable object and purpose to the original trust had been effected.”10

Obviously, this has consequences for all cases where a trust was used in a structure and the parties involved want to ‘sell’ the trust, including everything the trust holds or controls.

The typical estate planning structure of a trust holding the shares in a trading or investment company comes to mind, as well as so-called “business trusts” which may hold shares in a trading company as part of its business structure. Especially in the latter case, the possibility always exists that the whole structure could be up for sale.

While it may be debatable whether such a transaction would have attracted Capital Gains Tax in the trust before this judgement, it will now almost certainly do so in the light of the court’s finding that the original trust comes to an end and a new trust is formed if all the beneficiaries of the trust is substituted. This will certainly trigger a Capital Gains Tax event.

A further implication is that, in our trust law, there is no provision for ratification of actions of trustees taken before Letters of Authority for them to act in that capacity have been issued by the Master of the High Court. In a trading company/trust structure this could very easily lead to serious problems in the period before the new trustees have received these.

Although our trust law is in a state of constant development, the principles on which it is built cannot be ignored without taking on a serious level of risk that the goals the parties wanted to achieve may be undone.

Planners and clients alike will be well advised to take note of these principles and the essential requirements of a trust.

Louis van Vuren

(Endnotes)

1 Act 40 of 1949

2 Sections 2, 3 & 4 of Act 74 of 2002

3 Cameron (ed) et al, Honoré’s South African Law of Trusts, Fifth Edition, Juta Law, Lansdowne, 2002, p 117

4 The T Trust v The Commissioner for the South African Revenue Service, Case no 11286

5 Judgement by Mbha J delivered on 26 October 2007

6 The going rate at the time under sec 2(a) of the TDA for persons other than natural persons

7 At par 51 of the judgement

8 At par 42

9 At par 46

10 At par 52

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