Extensive use has been made of trusts in South Africa, both for tax planning and for the purposes of reducing (or eradicating) one's estate duty liability upon death. As the use of offshore trusts as a estate and wealth planning vehicle increases, one needs to consider if and how offshore trusts are taxed in South Africa.
As a general rule, offshore (non-resident) trusts are not taxable in South Africa on their worldwide income. However, in terms of section 25B(2A) of the Income Tax Act 58 of 1962, the distribution of capitalised income to a South African resident beneficiary, in a year subsequent to the year in which the offshore trust received the income, will trigger a tax event in the hands of that beneficiary. To determine how the beneficiary is taxed, the section provides that you must look at how the trust would have been taxed if it had been a South African resident during the previous years of assessment when the capitalised income was so accumulated i.e. if it is interest income or dividend income, it must be treated as such.
Paragraph 80(3) of the Eighth Schedule to the Income Tax Act echoes the provisions of section 25B(2A) in respect of the capital gains of an offshore trust that are distributed to the South African beneficiaries. Where the capitalized income distributed by an offshore trust to a South African beneficiary consists of, for example, dividends in an offshore company, then it is necessary to consider how the trust would have been taxed on these amounts if it was a South African resident. Provisions of the Income Tax Act, including the exemption provisions need to be considered.
It is important to note that an offshore trust which derives income or a capital gain from a source within South Africa may be subject to tax on that income and/or capital gain. The taxation of offshore trusts can therefore be somewhat of a minefield, and, if clients decide to utilise an offshore trust, care must be taken to record the nature of the income/capital received by the trust so that the South African resident beneficiary is taxed correctly when receiving a distribution from the offshore trust.