Capital vs ordinary income generated by trusts

Trusts may distribute income to some beneficiaries and capital gain to others. Trusts therefore need to distinguish between capital income, which is subject to capital gains tax, and ordinary income, which is subject to income tax.

What is capital?
For trust and estate purposes, any gain or loss arising from the sale of an asset is considered to be of capital nature. This also includes expenses incurred during the normal maintenance and sale of an asset, e.g. broker fees on the sale, repairs, maintenance and a portion of accounting fees. These expenses are not deductable for capital taxation purposes.

What is income?
Income is generally defined as any income produced by an asset, excluding the profit made on the sale of the asset, or from a business. Examples include income such as interest, dividends, rent received and business profits.

Responsibilities of trustees
In view of trustees’ fiduciary role, they are custodians of the assets held by a trust and need to act in the best interests of its beneficiaries. It is their responsibility to manage the assets, keep accurate accounting records, respect and carry out the donor’s instructions to allocate capital and income to certain beneficiaries in accordance with the trust deed. It is therefore important to distinguish between capital and income beneficiaries (and whether or not they have a discretionary or vested right).

Should beneficiaries receive incorrect distributions, they may hold the trustees responsible.

For more information contact Jonathan Coetzee at Tenk Loubser & Associates, tel. 021 852 0382 or e-mail jonathanc@exceedsw.co.za.