A beginner's guide to trusts

Many financial planners will tell you everyone should have a trust - yet most South Africans don’t even have a simple will. Not sure what a trust is or if your family needs one? Here is your beginner’s guide to the sometimes complex world of testamentary trusts.

So start with a will

Before we even get into the subject of the more complex topic of trusts, it’s worth repeating that every parent should have a will – and be sure in that will to appoint a guardian for your children should you and your spouse die at the same time. If your children ever need a guardian, the local court would appoint the person you nominated in your will. A will is also the most convenient way to create a trust, in this case called a testamentary trust (a trust set up in terms of the will of a person that comes into effect after their death).

Jaco Brits, an attorney dealing with estate planning, warns that dying without even a will (called ‘intestate’) means that your estate with all your assets may not necessarily go to the persons you desire. Again, such an estate will be distributed in terms of the rules set out by law.

Who needs a trust?

There are four reasons why you might need one:

• If you have minor children: if both parents die leaving behind minor children, this creates a huge financial complication and also enormous uncertainty for the children themselves. A trust enables you to ensure that you appoint someone you know and trust to look after your family’s financial needs, and provided you have the money, to provide for them in the manner you would have done yourself had you been around. A trust enables you to cater for your children’s financial needs, though a guardian will take care of their day-to-day care.
• In the event that you are divorced and your ex-spouse becomes your children’s guardian, he/she would have access to your children’s inheritance; or possibly worse - a complete stranger in the event your ex remarried. With a trust you know that your estate is managed according to your wishes by people you know and trust.
• Protection from creditors: where you have your own business, and are anxious your assets may one day be seized by creditors if the business fails, the answer is to relinquish ownership of your family assets into a trust. The trust deed (the ‘constitution’ for the trust) will enable you to still dictate how those assets are used, provided that the trust is set up correctly. It means those assets in the trust cannot be seized by creditors as they are no longer yours.
• Life insurance: if you have taken out a large life insurance policy, then you will want to ensure it is not frittered away by family members. In such a case you can arrange that the proceeds of the life insurance policy be paid into the trust and used only for specific purposes.

Why you need a trust

For the purposes of this article, we will primarily look at a trust as a means to protect your minor children. A trust is a vital instrument to ensure that your children are taken care of. The trust assets, like a house, can be used for the children to live in while the trust income can be used for their maintenance, education and wellbeing while they remain minors.

Brits describes the point of a trust as being to secure the inheritance you wish to leave to your minor children. “If there is no trust, their inheritance will be dealt with as follows: all the cash will be paid into the Guardians Fund (administered by the High Court) until they turn 18 years of age. If you have not made provision in your will for a guardian of your children, the High Court will also appoint a guardian for the day-to-day looking after the children, and who will be in charge of the children’s funds.”

“The guardian will be allowed to claim money from the Guardians Fund to maintain the minors, but this can sometimes be extremely arduous and time consuming,” says Brits.

“With a trust in existence, you can appoint your own trustee to be in charge of your minor children’s finances.”

It is worth noting that a trust comes with significant costs, and as such is commonly viewed as being only for the very wealthy. In fact, a trust has far less to do with how wealthy you are as how much your circumstances suggest you should have one. An uncomplicated trust can easily cost between R2,000 (in rural areas) and R5,000 (in urban areas), it’s a big purchase that shouldn’t be taken lightly. While they are affordable for the average person, there are also ongoing maintenance fees and these need to be taken into consideration when planning a trust.

How do you make sure you are ready to set up your testamentary trust?

The testamentary trust can be set up at the same time or after you have your will in place, as the will drives the foundation for Trustees, beneficiaries and rules for the set-up of the trust (trust deed) and it is made up of four parties, namely you the grantor, the trustee (potentially a close relative), your assets (e.g. your house) and beneficiaries (your children).

In a will, a grantor/testator (in this case yourself) bequeaths your estate to a trustee (a person you trust) to manage the estate to take care of the children (beneficiaries). The trust assets shall then ‘belong’ to the trustee in his official capacity, though he will not be allowed to use them for himself or any other purpose as set out in the trust deed (in this case the will) which serves as a Constitution for the Trust.

The trustee is the central figure. He or she is obliged under what is known as a ‘fiduciary duty’ to act with a certain standard of care, skill and diligence to protect the trust assets. The Master of the High Court will keep an eye on this, and can even require the trustee to lodge with the Court financial security of his/her personal cash or assets to ensure compliance with that fiduciary duty.

You can choose your own trustee, usually a close relative, who is then obliged to follow the trust’s rules, although the rules can also let the trustee use discretion in certain matters, for instance to cater for changing family circumstances.

The assets placed in the trust are typically your home, cash, any investments or other assets. Over time, if wisely managed, the value of the trust should grow due to any interest (on cash), dividends (on investments) or profits (such as increases in the value of your home, for instance). The rules will determine, when, where and how these are distributed.

Dangers and considerations of trusts

Brits explains that a number of difficulties can arise with trusts that you need to be careful of.

“You need to be very specific about naming who the beneficiaries are. If the description of beneficiaries, or class of beneficiaries (such as ‘children’), is loose or vague, this could give rise to later legal disputes. Another danger is where you name a trustee who dies before you or during the existence of the trust without nominating a substitute or setting out the process to identify a substitute.

“Possibly one of the biggest difficulties is the selection of the trustee. It is an onerous position, and the person has to be someone who is both up to the challenge, and willing to do it. It is important to keep in mind that a trustee may charge a fee for his services, while professional persons are entitled to their professional fees. Indeed, there are other administration-expenses that one must keep in mind. One should therefore ask oneself whether the value of the assets one wants to leave behind in a trust is sufficient to justify the expenses, costs and administration involved,” says Brits.

These challenges (and the possibility a trustee may have to provide the Court with security) tends to make the role of trustee unattractive for a non-professional. Furthermore, if the trust is not set up and administered properly, you run the risk of the trust being challenged by the taxman as a sham (or even as not having been established at all), in which case the benefits of asset protection may be lost.

How to start

Given the complexity of trusts, Brits recommends that you first speak to a financial planner or other professional to determine whether a trust is the best route for you and ensure that your intentions are actually given effect to. A trust is not something you would want to try establish yourself. Ensure that you have your will in place, you can do this yourself or with your financial planner or trusted professional.

What is next best to a trust?

All of the above complexity and cost does tend to deter many people. There are other solutions not as efficient as a trust but also effective:

• Firstly, and as already mentioned, start by writing a will in which you name guardians for the children in the event both you and the other parent were unavailable to raise your children. That may seem very unlikely at the moment, but worth addressing just in case. And in the more likely event of only one spouse dying, ensure that both you and your spouse bequeath your assets to each other for the continued care of the children. Drawing up a will can be quick, easy and inexpensive: you can probably just do it yourself, without a lawyer’s advice.
• Secondly, buying life insurance is a good idea when you’re thinking about your family’s future. The life insurance pay-out in the event of your death can be used to replace your earnings for a few years; once again you can describe in your will how you want the pay-out to be used to benefit your family. Remember to nominate your beneficiaries on your life insurance policy.
• Thirdly, name beneficiaries for any retirement plan you’ve opened by filling out the beneficiary form provided by your employer or the insurance company in the case of a retirement annuity or other plan. You should also remember to change it periodically as your circumstances change. This makes it possible for the funds in the account to go directly to the named beneficiary without going to Court.