Capital gains tax - Personal vs Trust

When deciding on the best way to purchase property you must first look at your objective regarding the property. You need to ask yourself the following questions:

  1. What do I intend to do with the property? Am I buying it for a short-term period or will I hold on to the property for an indefinite period of time?
  2. Am I going to renovate the property and sell it, to make a profit? If you do this on a regular basis, then you will be classified as a property developer and you will pay income tax of 40% on the profits and not the Capital Gains Tax (CGT) at 10% (tax rates will be dependent on your income tax rate with the maximum payable).
  3. Am I buying the property for rental purposes?
  4. Am I buying the property to give it to my children one day?
  5. Is estate duty a concern of mine?
  6. Am I concerned about asset protection?
  7. Will the property be my primary residence?

As far as residential property is concerned, there are two ways in which to purchase the property: in your personal name or in a Trust. Let us compare the two.

Personal name:

Advantage:

· The transfer duty is low

· Up to R500,000 the transfer duty is Rnil.

· R500,000 to R1million it is 5% and

· If the purchase price is more than R1 million then the transfer duty is 8%.

If it is your primary residence you will not pay CGT on the first R1,5 million of growth in the property. If you purchase a property for R2 million and you later sell it for R4,5 million you would have made R2,5 million profit. You will not pay capital gains tax on the first R1,5 million of the profit, so you will pay CGT on R1 million.

Disadvantages:

As the property is in your own name, it can be attached by creditors It forms part of your personal estate and you will have to pay the following deathbed expenses. Let’s use the above example and assume you die when the property is worth R4,5 million.

Example: Estate duty will be payable at a rate of 20% or R900,000 (if you have other assets of R3,5 million). The problem only increases as the property grows in value.

If the above property were a second property you would have to pay capital gains tax of 10% assuming your marginal rate was 40%. Your estate would have to pay 10% CGT based on the R2,5 million growth or R250,000. Even if the property is your primary residence, you will have to pay CGT on R1 million (R100,000).

You will have executor’s fees to pay of 3.99% on R4,5 million(R179 550). Your estate will be frozen and takes a long time to wind up an estate. If your beneficiaries inherit the property in their own name, it will form part of their own estate and they will have the same disadvantages.

When you add up all the deathbed expenses, you will pay R1 179 550 or 26.2% of the value of the property in the case of a primary residence. If it is a second property it will cost R1 329 550 in deathbed expenses or 29.5%

Trust:

Advantages:

The property will be protected from your creditors It will not form part of your personal estate so you will not pay the following deathbed expenses: · Estate duty: 20%

· Executor’s fees: 3.99% (advice is here to name your spouse or child as executor, do not name a bank as your executor! Your spouse or child could then negotiate executor fees of at least 2% with an accountant or attorney)

· No capital gains tax will be payable on your death if your beneficiaries do not sell the property i.e. if it is a holiday home or an investment property. This does not mean capital gains tax will never be payable, it just means it won’t be payable on your death, but only when the property is sold. When the property is sold the money will be available to pay CGT. Your beneficiaries will not be forced to sell the property to pay CGT.

· There will be no freezing of the property, as it does not form part of your estate. If you were to sell the property you would have immediate access to the proceeds of the sale.

· As the property is owned by the Trust it will not form part of the beneficiaries’ personal estates and no further estate duty will be payable unless the beneficiaries deliberately take the asset out of the Trust and place it under their personal name.

Disadvantages:

1. Transfer duty is at a flat rate of 8%, which is higher than if the property is purchased in your own personal name.

2. If the Trustees decide to sell the property and keep the money in the Trust, the Trust will pay 20% CGT, which is higher than the 10% you pay in your personal name.

Important: The Trustees can pass the proceeds of the sale out of the Trust to the beneficiaries of the Trust and the beneficiaries will pay CGT in their own name. This means you will never pay more CGT in a Trust than in your own name if it were a second property!

Example: If the property is your primary residence and it is owned by a Trust, you will pay between R150,000 and R400,000 more than if it is in your own name. However you need to compare this to R1 179 550 or R1 329 550 in total deathbed expenses. You then need to decide which option is most appropriate for you.

Article by: Marsha Haupt - www.betterbond.co.za