There are common issues faced by clients, upon death or divorce, which opens the door to having proactive conversations on how best to split assets.

In advising clients on these critical financial decisions, FAnews hosted a live webinar, sponsored by Fairheads Benefit Services and Momentum Corporate, on beneficiary funds, trusts and divorce.

A unique investment vehicle

David Hurford, CEO at Fairheads Benefit Services, talked about beneficiary fund products, what they are, who can use them and the benefits they offer.

Beneficiary funds – a uniquely South African investment and savings vehicle – were introduced in 2009, as a sound means of managing death benefits stemming from retirement funds and other employment related benefits under the Pension Funds Act.

“Beneficiary trusts basically replaced umbrella trusts as the default vehicle into which section 37C death benefits should be paid, if the trustees of a retirement fund in their discretion choose not to pay directly to the deceased’s dependant, or their guardian or caregiver. Umbrella trusts – which are regulated by the Trust Property Control Act – were formed in the 1980s but fell prey to the Fidentia Living Hands scandal in 2006, leading to the then Finance Minister Trevor Manuel exploring the formation of beneficiary funds which have been brought under the Pensions Funds Act by being classified as a pension fund organisation with member recourse to the Pension Funds Adjudicator,” said Hurford.

Principal aim of a beneficiary fund

“Note that a beneficiary fund is not a preservation fund, nor does it fall within your estate upon your death. A beneficiary fund can receive any employment-related benefit, including retirement fund credit, approved or unapproved group life, accrued leave pay etc and can be used for minors or majors. In practice, beneficiary funds are most commonly used to protect minors’ benefits if the retirement fund trustees have done the necessary due diligence to assess whether payment to the guardian directly or to the beneficiary fund is preferable. Retirement fund members can stipulate their preference for the use of a beneficiary fund on their nomination form,” he added.

“The principal aim of a beneficiary fund is to look after a child’s financial interests until they turn 18. Monthly payments are made to legal guardians and caregivers to help with general living costs. Larger amounts may be paid out separately for expenses such as school fees and medical costs. The investment strategy is based on the approved trustee Investment Policy Statement. Best practice is to base the asset allocation on a life stage model, allocating a higher proportion of growth assets to younger members, checking regulation 28 compliance, etc,” continued Hurford.

What counts, according to Hurford, are the key words of

  • Administration;
  • investment approach;
  • communication; and
  • accessibility.

“Planners would be well advised to acquaint themselves further with the product as an investment into a beneficiary fund is entirely tax free – one of the best-kept secrets in South Africa. The money is untaxed upon entry into the beneficiary fund (if the lump sum is R500 000 or less), no tax is paid on any income or capital paid out of the beneficiary fund and no tax is paid on termination of the fund when the child turns 18 and is entitled to receive the remaining proceeds. Income projections can be provided to transfer funds to assist in reaching a death benefit distribution decision,” concluded Hurford.

A beneficiary fund or a trust

Jeffrey Wiseman, CEO of Momentum Trust, went on to discuss trusts and how beneficiary funds may also be an option when it comes to estate planning.

“With the pandemic came a sense of urgency amongst people to have their affairs in order. The first step is to consider the needs of the client in conjunction with the monetary value that needs to be protected,” said Wiseman.

“When an employee passes away, they may leave behind employment-related benefits such as retirement benefits or lump sum death benefits. The legal guardian of a child may not know how best to manage the benefit and make it last until the child turns 18. It is, therefore, the trustees’ decision whether the benefit will be paid into a beneficiary fund or a trust,” added Wiseman.

Trusts versus beneficiary funds

“A trust is a legal arrangement where a person, known as a trustee, holds or administers property (such as employment-related death benefits) separately. It is regulated in terms of the Trust Property Control Act and overseen by the Master of the High Court. It is governed by a trust deed which is a document that sets out the purpose of the trust, who the beneficiaries are and how the property is to be administered. The trust is registered with the Master of the High Court, and as a taxpayer, with the South African Revenue Service (SARS). The trustees administer the property according to the trust deed. The trust will come to an end when the trust deed provides for it to come to an end (e.g., when beneficiaries reach the age set out in the trust deed). The trust does not have to be audited unless an audit is required, and the trustees are not required to submit any reports. Trusts may receive benefits. Where benefits of the trust automatically vest in the beneficiaries of the trust, the trust is a vesting trust, and the benefits are not subject to tax in the trust. Income and gains that vest in beneficiaries may be taxable in their hands. Actual distributions from the trust are not subject to tax in their own right,” continued Wiseman.

“A retirement fund organisation is set up to receive, administer, invest and pay employment related death benefits for the benefit of a deceased employee’s beneficiaries, usually minor children. It is regulated in terms of the Pension Funds Act and the Financial Services Conduct Authority (FSCA). The fund must be registered with the FSCA and approved by SARS. The benefit is invested, and the fund makes monthly payments to legal guardians and caregivers to help with the child’s general living costs. When the beneficiary turns 18, they will become entitled to the balance of the capital that is in the fund. The beneficiary can request that the benefit remains in the fund. The fund is subject to the same strict regulatory requirements as retirement funds, such as annual audits and submitting reports. The benefit in the fund is not taxed. Payments out of the fund to the beneficiary are tax free,” said Wiseman.

“When looking at the benefits of a trust, it can receive money from sources other than employment-related benefits, it can be set up in a specific way for a specific situation, the trust deed will determine the date on which the beneficiary becomes entitled to the capital, and it can be structured to be tax effective. When looking at the benefits of a fund, it is strictly regulated, the benefit paid by the fund is not taxed and it is cost-effective,” added Wiseman.

“The disadvantage of a trust is that income and gains that vest in beneficiaries may be subject to tax, in the hands of the beneficiaries at their applicable tax rates, and trusts are not subject to the same regulatory framework as beneficiary funds and carry no reporting obligation to the FSCA. However, many trusts require an annual audit and are subject to the regulatory framework contained in the trust deed itself. The disadvantage of a fund is that it can only receive employment-related death benefits and the beneficiary becomes entitled to the capital when they turn 18,” concluded Wiseman.

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Beneficiary funds, trusts and divorce