Question

I have R10 million invested offshore in an S&P 500 index unit trust. The money was transferred into dollars using my offshore allowance.

I have heard that offshore investments can seriously delay the winding up of an estate if they are not structured correctly. Is this true and, if so, what can I do about it?

Answer

Because your investment is legally situated in the United States, it may create three major problems for your estate:

1. US estate tax;
2. Cashflow issues in the estate; and
3. Long and expensive delays in finalising the estate.

1. US estate tax

South African residents are generally liable for estate duty on their worldwide assets. This means that your R10 million US investment will form part of your South African estate, even though the money is held overseas.

The problem is that the United States may also charge estate tax because the investment is legally situated there.  For someone who is neither a US citizen nor a US resident, the US estate-tax process can apply where their US-situated assets exceed $60,000. That is a very low amount when converted into rands.  US estate-tax rates work on a sliding scale and can reach 40%. This is significantly more than the SA estate duty

2. Cashflow

The next problem is access to the money.

When you die, the US investment may be frozen, and the US estate tax may have to be paid before the US asset can be sold or transferred. Your executor could be forced to sell South African assets to raise the cash needed to pay the US tax.

The US tax authority indicates that one of the clearance processes for a non-US estate can take between 12 and 18 months once all the necessary information has been received. During this time, your family may not be able to access the investment.  This can create a serious cash-flow problem. 

3. Delays and costs

Your South African executor will probably need help from US based legal and tax specialists.  Documents may need to be sealed, sent overseas and accepted by the US investment provider and tax authorities. This adds costs and delays.

It may also delay the rest of your South African estate. Your executor cannot finalise your local estate while a major asset remains unresolved in another country.  This is often the biggest frustration for a family. They know that the money exists, but they cannot access it when they need it.

A simpler structure may solve the problem

A possible solution is to place the offshore investment inside a properly structured offshore life-policy wrapper. 

The underlying money can remain offshore and continue to be invested in the S&P 500 or any other global investments.  The main difference is what you legally own.

• At present, you own an investment that is legally situated in the United States.
• Inside the correct wrapper, you would own a policy issued by an insurer. The insurer, rather than you personally, would own the underlying US investments.

This distinction can remove the US estate-tax and probate problems connected to personally owning the US-situated assets.

The policy will still be included when calculating your South African estate duty but will not attract situs tax or probate costs. 

The objective is not to hide the investment or avoid all South African tax.  The objective is to prevent the investment from becoming trapped in a foreign estate process and potentially being taxed as an asset that you personally owned in the United States.

A beneficiary can be nominated

A further advantage is that a beneficiary be nominated on the policy.  Depending on how the policy is structured, the investment can be transferred to that person or the proceeds paid directly to them after your death.

This can avoid the need for the proceeds to pass through the normal estate-distribution process.  Your beneficiaries will usually have access to the investment within a month of your passing rather than the years it takes to sort out offshore estates.  You will also not have to pay executor fees, saving you up to 4%.

The money does not necessarily have to return to South Africa. Your beneficiary may be able to keep it invested offshore.

The downside

Selling the current investment may trigger capital gains tax. This cost should be calculated before making any changes, but it is usually a small price to pay when compared with the potential savings in US estate tax, foreign legal fees, executor’s fees and other administration costs.

The correct structure could save your family an enormous amount of time. Instead of waiting months or even years for the US and South African estate processes to be completed, the investment may be transferred or paid to the nominated beneficiary far more quickly.

Good financial planning is not only about growing your money.  It is also about making sure that the right people can receive it, with as little tax, cost and delay as reasonably possible.