Included in the Draft Taxation Laws Amendment Bill of 2016 are far-reaching proposals relating to the income tax treatment of low interest or interest free loans to trusts. The proposals if enacted are serious enough as to lead to the unwinding of various trust structures.

The wording is contained in a proposed new section (section 7C) of the Income Tax Act. In essence, if the pre-conditions contained in the section are met, then:

  1. The difference between the interest actually charged on the loan and interest at the ‘official rate’ as defined, is to be included in the income of a natural person (usually but not necessarily the actual lender in that the actual lender may be a company that is a ‘connected person’ in relation to the natural person (see below));
  2. The amount so included in the income of the lender is not deemed to be interest and therefore the income tax exemption relating to interest income may not be used to offset the amount;
  3. The income tax payable by the natural person as a result of the inclusion of the above amount in his or her taxable income must be recovered by the natural person from the trust within three years after the end of the relevant year of assessment, failing which such amount will be treated as a donation by that person to the trust, potentially subject to donations tax;
  4. No corresponding deduction will be available in calculating the taxable income of the trust;
  5. Arrangements whereby lenders forgive R100 000 per annum of their loans to trusts in order to utilise the annual exemption from donations tax will no longer give rise to an exemption from donations tax; and
  6. No deduction, loss or allowance will be available to a lender as a result of the failure of the trust to repay a loan, advance or credit provided under the circumstances envisaged in the section.

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This article first appeared on bdo.co.za and was published by Author: David Warneke (BDO South Africa)