You must take capital gains tax into account in your estate planning

When assisting clients with estate planning and discussing the tax considerations applicable to their estate upon their death, an often misunderstood and unplanned for consequence following a death is capital gains tax ("CGT"). In this article, we take a closer look at some of the considerations that come into play with respect to CGT and how regular review of your estate plan is important to ensure that the latest tax considerations have been incorporated into your estate plan.

The death of a person is a major event resulting in various consequences, both patrimonial, inheritance and taxation. When focusing on the taxation side of the event, several taxes come into play with proper estate planning intended to forecast and plan for these taxes in advance. The foremost taxes are income tax, CGT and estate duty, and all of these bear consideration in estate planning as tax changes may affect the effectiveness of your overall estate plan and the ultimate liquidity of your estate upon death.

Death is an event that will trigger CGT because it is viewed as a deemed disposal of the assets of the deceased person for an amount equal to the market value of the assets on the date of death. A deceased estate will therefore incur a CGT obligation. 

This CGT liability can be waived if the assets are acquired from the deceased by a resident surviving spouse, as these assets will be subject to the "roll-over" principle included under section 25(4) of the Income Tax Act 58 of 1962 ("Income Tax Act"). The resident surviving spouse inherits the base cost and all aspects of the history of the assets (date of acquisition and usage) from the deceased spouse and will have to account for any capital gains or capital losses when the asset is ultimately disposed of. This provision is not an exclusion from CGT, but merely a roll-over measure that has the effect of shifting the incidence of the tax from the deceased to the surviving spouse. The roll-over relief applies automatically and neither the deceased nor the surviving spouse can elect out of it.

Several additional exemptions can be claimed. For instance, in the case of a primary residence, there would be an exemption of up to R2,000,000 that can be utilised in the year of passing. This is supplemented by increasing the usual annual CGT exemption of R40,000 per annum available to individuals, to a higher amount of R300,000 in the particular tax year of passing. This does not however apply to a non-primary residence or where the residence is purchased in a trust or company.

To calculate any potential CGT payable, the base cost or date of acquisition value of the assets has to be established and then upon death (or the date of disposal of the assets whilst alive) the assets have to be valued to ascertain the current market value, which is then deducted from the base cost value to calculate any possible CGT payable.

As mentioned earlier, estate planning and assessing the impact of taxes on a deceased estate is a continuing process, as a failure to do so could have dire unforeseen consequences. To illustrate with an example taken from a typical farmer's estate: livestock was previously considered a capital asset and subject to capital gains tax upon the death of the farmer. However, an amendment to section 9HA(1) of the Income Tax Act, has had the effect that the deceased is now deemed to have disposed of his or her livestock and produce upon date of death at fair market value. This results in an inclusion of gross income similar to that of the livestock disposed of in the ordinary course of farming operations and income tax will therefore be payable by the deceased's estate and not CGT on the livestock. This could have repercussions for the estate and its liquidity and would need to be factored into the farmer's estate planning.