When a person dies, that person is deemed to have disposed of his or her assets (for tax purposes) on the day before death for an amount equal to the market value of those assets at that time. All assets of the deceased fall into these deemed disposal provisions, including capital assets and trading stock. This means that both CGT and income tax can arise on death as a result of these “deemed disposal of assets” provisions. In addition to these “deemed disposal” provisions, estate duty can also arise on death if the net value of the estate exceeds R 3,5 million.
Obviously if a deceased does not own any assets, there cannot be any deemed disposal of assets and there will also be no estate duty. There are therefore great advantages of certain valuable assets being held in a trust and not in a person’s own name.
It is important to note that there is a difference between the manner in which CGT is calculated and the manner in which estate duty is calculated on the death of a taxpayer.
CGT is levied on the growth in the value of the assets in the hands of the deceased (that is market value of the asset on the date of death, less the base cost of the asset). Any liabilities in respect of any assets (such as debt owed and mortgage bonds) are therefore not taken into account for CGT purposes. Essentially CGT is calculated based on “market value” of assets (determined at the time of death) less “cost” of those assets. Estate duty, on the other hand, will be levied on the dutiable amount of the estate (which takes into account the market value of the deceased’s assets at the date of death less liabilities).
Certain assets will not be deemed to have been disposed of on the death of a taxpayer. In other words, these assets will not attract CGT on the death of the deceased. The most significant exclusion from the “deemed disposal” rule is that all assets that accrue to a surviving spouse will not attract CGT. In other words, bequests to a surviving spouse will be treated as a transfer to the surviving spouse at cost for the purposes of CGT. Similarly there will be no estate duty in respect of assets inherited by a surviving spouse. However, when that surviving spouse dies, then both CGT and estate duty will arise. Therefore, in essence, the tax problem is simply delayed when a spouse inherits assets. Once again, such tax liabilities can be avoided if the assets are held in a trust. The beneficiaries of a trust can die and assets held in the trust will not be taxed at all if the trust is properly established and administered.
|Example: CGT and estate duty on the death of a person|
|A deceased’s estate in the year of their death consists of the following assets and liabilities:|
|Motor vehicle (never used for business purposes) cost R170 000||100 000|
|Shares (cost R200 000)||3 million|
|Total assets||8 100 000|
|Creditors (amounts owed by the deceased at the time of death)||1 800 000|
|Net value of the estate||6 300 000|
|From the above example it is apparent that there will be a CGT liability when the person dies, calculated as follows:|
|R3 000 000 (value of shares) less R200 000 (cost of shares) = R2 800 000 (gain) less R300 000 (death exclusion available to the deceased in the year of their death) = net gain of R2 500 000 for CGT purposes. Note that the motor vehicle is not included as a deemed disposal because it is a personal-use asset and is, therefore, excluded from any CGT liability. Cash is not included because it is not an asset for CGT purposes.|
|CGT: include 40 % of the gain of R2 500 000 in taxable income of the deceased in order to calculate the CGT liability i.e. R1 000 000|
|Assume tax at 45% = R450 000 (R 1 000 000 x 45%). Therefore there is CGT of R 450 000 arising on death|
|There is also estate duty arising on death, calculated as follows:
Net value of the estate:
R 6 300 000 (including R 100 000 motor vehicle) less CGT liability of R 450 000 = R 5 850 000 less abatement of R 3 500 000 = R 2 350 000 x 20% = R 470 000
Therefore the total tax liabilities arising on death in the above example are R 470 000 (estate duty) + R 450 000 (CGT) = R 920 000 (total tax)
Therefore it is clear that if a person owns assets in his or her own name (and not in a trust), a CGT and an estate duty liability can arise on the death of a person. This can obviously not only reduce the value of the assets that passes to heirs, but these tax liabilities could place a high burden on the liquidity of a person’s estate (i.e. there is lack of cash). Failure to assess the liquidity of an estate on the death of a person could cause the forced sale of some of the assets of the estate in order to pay the tax liabilities.
It is therefore clear that a trust can be a very useful tax-planning tool and can be used to avoid the taxes that arise on death. Moreover, if a trust owns assets, there will be no interruption to the use or enjoyment of the assets when a person dies. However, if a person owns assets in his or her own name, some of the assets can be frozen until such time as the executor of the estate has completed the winding-up of the deceased estate.
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Article written by Professor WD Geach:
Professor Walter Geach is a respected advocate of the High Court for South Africa. He specialises in taxation, corporate law, trusts, financial planning and financial accounting. He is also the Departmental Chair of Accounting at the University of the Western Cape under the faculty of Economic and Management Sciences.
Contact the Director (or partner) at C2M Angelique Bronn (Director C2M Trust Management and C2M Estate Administrators) for an appointment to review your estate planning, trust and will.