For most of us, particularly if we have dependants, disposing of our assets when we die is not as easy as writing a simple will stating, "I leave everything to the cats' home", or whomever else we might fancy. Alas, it's a lot more complicated than that, and there are numerous structures that can be set up both within your will and outside of it to take care of the different and often complex needs of your dependants or heirs.
Some of the questions you might need to ask yourself include the following:
- What happens if you and your spouse die when your children are minors?
- What happens if you and your spouse die and you have an adult child who, for any reason, is incapable of supporting him- or herself?
- What happens if you are a farmer, and you want to ensure that your surviving spouse derives an income from the farm while your son, who runs the farm, also receives an income to support his family?
- What happens if you have a second spouse who needs to be supported until he or she dies, but you also want to ensure that your assets go to your children from your first marriage?
Many wills are based on what is termed "outright bequest", where you leave everything unconditionally to the people you name in your will. Estate duty is payable at a rate of 20 percent on the net value of your estate above R1.5 million. Estate duty is not payable on assets awarded to your spouse.
Graham McPherson, the managing director of First National Bank Trust Services, says it is often perfectly appropriate to make an outright bequest. But wills can become more complex. For example, you can make your bequests conditional - in other words, your heirs will receive the assets subject to a number of conditions. These conditions may include:
- A time frame - for example, when an heir reaches a certain age; or
- A future event - for example, when an heir has acquired certain skills; or
- An obligation is placed on an heir to use an asset, or the income derived from an asset, for a specific purpose. For example, the heir may be obliged to pay all or part of the income to a surviving spouse or to a former spouse until he or she dies, when the capital will pass to their children.
The law provides many different structures for making a will conditional. McPherson warns that these structures are complex, and may result in unintended legal and tax consequences if they are used incorrectly. ( Click here for a brief summary of the tax implcations of limited interest structures.)
Many of these structures provide for what is called "limited interest". In simple terms, this means you could, as in the last example above, leave the use of an asset to one person while the ownership of the asset goes to the ultimate heir, who only acquires full ownership of the asset once the person using it dies or no longer needs it to, for example, produce an income.
Limited interest structures are usually established in terms of a will, but are not limited to estate planning. For example, they can be used in divorce, where someone needs to be given use of, but not ownership of, an asset for a predetermined period, or has to be provided with a guaranteed income for life.
Both McPherson and Jenny Gordon, a senior legal adviser at Old Mutual, say it is imperative that you consult an estate planning expert when you contemplate using limited interest structures, to ensure that unforeseen complications do not arise.
Gordon says there is no best way of structuring an estate plan. Each family needs its own particular plan that serves its purposes and with which all the members of the family are comfortable.
"Each solution has its own implications for the individuals receiving the benefit," McPherson adds. "It is critical that you have a full understanding of the implications from the beginning." Given the complexities, he says, not only do you need to consult an expert, but you need to be completely open with the professional adviser you use. If you are not, the result could be "significant frustration for your loved ones, as they may end up with limited rights to assets which, while fitting the financial obligations of the plan, may not fit their understanding of what you wanted for them".
McPherson says you must be clear in your own mind about the consequences of using limited interest structures, and ensure that your estate planning adviser also understands what you are trying to achieve.
The use of a limited interest structure makes it all the more important to review your estate planning regularly, because your circumstances can change, McPherson says. The good news is that the various options have a rich history and are well tested in case law, which makes it easier for the experts to provide you with the correct advice.
YOUR LIMITED INTEREST OPTIONS
Click here for a graphic depicting the features of the various limited interest structures.
As a general guide, McPherson says, the various structures available to you include:
- Inter vivos trusts
Inter vivos ("between the living") trusts are established in your lifetime, mainly to reduce estate duty. By placing your assets in an inter vivos trust, you transfer ownership of the assets to the trust, which does not die with you, and enables your heirs to use the assets without paying estate duty.
The trust is controlled by trustees, who are appointed in terms of the trust deed.
Inter vivos trusts are primarily used to:
- Limit estate duty. By placing your assets in a trust, you "freeze" the value of your estate at its present value. The assets will appreciate in the trust, and not in your estate, limiting the net value of your estate, which is particularly advantageous in a high-inflation environment. In other words, you will limit the amount of estate duty your estate will pay, because the assets are held by the trust and not by your estate.
- Ensure that your beneficiaries have access to income and capital immediately after your death. If your assets remain in your estate, your beneficiaries may have to wait up to a year before they receive their benefits. A trust ensures that they receive their benefits without delay.
- Protect assets in the event of insolvency. In most circumstances, people to whom you owe money cannot claim any debts from a trust, because, legally, you no longer have control of the money.
- Provide continuity by establishing a separate vehicle that does not cease or require transfer of ownership after your death. This can be useful for ensuring that a business you own or co-own continues to run smoothly after your die.
- Structure the multi-ownership of an asset. It is not easy to divide some assets - such as a business, a farm or other fixed property - between heirs. By placing the asset in a trust, you can hold the asset intact, while your heirs become beneficiaries of the income generated by the asset.
McPherson warns that although inter vivos trusts are an excellent estate planning vehicle, they can be fraught with difficulties, and could prove counter-productive if they are established merely to reduce your estate duty liability. The government has trusts "in its sights", because the authorities believe they are being set up merely to avoid tax.
- Will (testamentary) trusts
Will trusts, also known as testamentary trusts, are established in terms of your will and only come into existence after you die.
McPherson says testamentary trusts are primarily used to protect assets that will be inherited by people who may not have the ability to manage money. An example is minor children (until they reach a specified age) or adults whose handicaps prevent them from earning a living and/or managing their finances.
A testamentary trust can be used to protect inheritances due to minor children, on the death of one of the spouses, by providing the surviving spouse with income and, when in need (at the discretion of the trustees), the use of capital until his or her death. This effectively prevents a third party from gaining control of the children's inheritance, in the event of the surviving spouse remarrying, for example.
A testamentary trust does not reduce your estate duty liability, because the assets are still part of your estate when you die and are only transferred to the trust after your death.
A testamentary trust is particularly useful for people whose estates will not pay large amounts of estate duty, and who want to protect the interests of minor children or other dependants who may be incapable of making rational financial decisions.
By appointing professional trustees, you can ensure that, as far as possible, the money in the trust will not be squandered and the financial interests of the children will be safeguarded.
The administrators of a trust need not be the same as the executors of your estate. You should appoint people you trust in both capacities. You need to know they will look after the interests of the beneficiaries and will not enrich themselves.
When a husband and wife establish a testamentary trust to protect their children's interests, they can draw up separate wills stipulating that the trust only comes into being after the last one of them has died. This can ensure that the surviving spouse will not be subject to any of the limitations of the trust.
The tax authorities take a compassionate approach to testamentary trusts established for minor children or incapacitated dependants. Such trusts are subject to the marginal income tax rates of individuals, but without the primary and secondary rebates.
- Usufructs
The term "usufruct" is derived from the Latin words "usus" ("use") and "fructus" ("enjoyment"). Usufructs grant someone a limited right to use another person's property (assets), including using that property to generate an income, with the stipulation that eventually the property must be returned to the residuary heir (the person who eventually inherits the residual asset and who holds the "bare dominium").
The asset could be a home or a capital investment that provides an income.
A person may be granted a usufruct until a certain event occurs, such as becoming entitled to other assets, remarriage or death. The holder of the usufruct is normally obliged to ensure that the value of the asset is preserved. For example, if the asset is a house, the usufructuary must maintain it in good condition. If it is a cash asset, the usufructuary may not draw down the capital amount.
A usufruct gives the bare dominium owners (the ultimate heirs - say, your children) the right to claim assets from the usufructuary (for example, a surviving spouse) at the end of the usufructuary period (for example, on the death of the usufructuary).
McPherson says a usufruct is similar to a testamentary trust, but because the assets (except in the case of fixed property) are normally registered in the name of the usufructuary, the heirs have less control over the assets than they would if the assets had been placed in a testamentary trust.
Peter Fairhead, the chairman of Fairheads Inter-national Trust Company, which is one of the largest trust companies in South Africa, warns that structures such as usufructs are in a sense inflexible, and were devised for an age that was more rigid and in which it was easier to make assumptions about the future.
Trusts are a better option, Fairhead says, because they provide more flexibility than other structures. Trusts cater for many different situations, particularly when accompanied by a Letter of Wishes from the donor or testator. A Letter of Wishes is in effect a guidance note to the trustees about how you would prefer to see the trust administered. However, it is not a legal document that can be enforced.
- Usus
A usus is a form of a usufruct, but the use of the property is limited to personal use by the usufructuary (the person who holds the usus). In other words, the holder of a usus could not, say, rent out a house that is part of a usus agreement.
- Habitatio
McPherson says habitatio (the Latin for "dwells") agreements give a person the right to live on a property for a specific period of time. A person who has been granted habitatio cannot sell or cede the right to another person.
- Fideicommissum
A fideicommissum (literally "to leave a faithful person in charge") enables you to leave a benefit to a beneficiary on condition that, after the death of that beneficiary (known as the fiduciary), the benefit is passed on to another beneficiary (the fideicommissary).
Gordon gives the following example: You bequeath your house to your spouse (the fiduciary) and, on his or her death, to your child (the fideicommissary). Your spouse becomes the owner of the property, but his or her right to encumber (use it for security against a loan) or dispose of the property is restricted.
There is also a fideicommissum residui, where the fiduciary is given a right to dispose of the property and only that which remains on the fiduciary's death is passed on to the fideicommissary. (For example, if the fiduciary sells a house, whatever remains of the proceeds of the sale when the fiduciary dies must be passed on to the fideicommissary.) Unless you state otherwise, 25 percent of the assets must be preserved and passed on to the fideicommissary.
Unlike a usufruct, if the fideicommissary dies before the fiduciary, full ownership passes to the fiduciary.
Gordon says a fideicommissum residui may be appropriate in the case of investible property if the testator wants to allow the surviving spouse to use some of the capital if the income is insufficient to meet his or her needs.
McPherson says that, because a fideicommissum is a right that passes to the succeeding generation, it is often used to keep a farm in a family. However, the law only allows for two successive beneficiaries. This means you can ensure that your grandchildren inherit the farm, but you cannot instruct your grandchildren to pass it on to their children or grandchildren.
Administration by trust companies
Once you have decided that you want to use a limited interest structure, you may need to choose someone to administer it. Investment decisions often have to be made, and you need to ensure that the money will not be squandered. Although limited interests need not necessarily be housed in a trust structure, a trust ensures the assets are independently administered.
One of your options is to use a trust company. Another is to have a lawyer draw up a trust deed, nominating the members of your family as trustees. However, it is better to appoint at least one independent trustee, who can act as an adjudicator in the event of a dispute. Fairhead says appointing independent, professional trustees, who understand the complexities and serious nature of fiduciary responsibilities, can bring a degree of objectivity and balance to complicated family matters.
Trust companies, which perform this task, have been in existence for many years, and most banks have trust divisions. You can decide the extent to which you want to involve the trust company - from making the company both the trustee and manager of the trust, to having the trust company appoint one of the trustees so that there is an independent view.
The cost of administering trusts varies, depending on how you decide the trust should be controlled, but costs are always negotiable. The greater the amount of money involved in the trust, the more cost-effective having a trust becomes.
Many trust companies, such as Fairheads and FNB Trust Services, manage umbrella trusts, particularly on behalf of retirement funds, which often need to safeguard the interests of dependants of deceased members. For example, a retirement fund may pay an income to a child until he or she reaches majority or, if he or she is a student, until the age of 25, and then pay out any remaining capital to the child as a lump sum. An umbrella fund is likely to cost less than an individual trust.
Umbrella trusts can also be used by individuals, but you must understand how they are administered and controlled. For example, you will not be able to nominate any of the trustees.
Annuities - another option
In addition to limited interest structures, there are other, more cost-effective ways of ensuring that a dependant receives an income - particularly if you do not want to bequeath a capital amount and the income generated by that capital to different beneficiaries. One such option is an annuity.
An annuity is simply an income that is paid - usually by a life assurance company - in return for a lump-sum investment. The annuity may be paid for a fixed period or until the recipient dies.
So, for example, you could state in your will that a sum of money must be used to purchase a voluntary annuity for a child, and that the child will receive the annuity until he or she turns, say, 25. The executor would purchase the annuity. Or, you could purchase an annuity during your lifetime to provide your former spouse with an income.
Gordon says an annuity bought from a life assurance company is, in effect, a payment that consists of some of the capital and some of the income earned on the capital. The tax consequence of this is that, if structured properly, a certain amount of the annuity is exempt from tax (this amount resembles the capital portion of the annuity in terms of a formula in the Income Tax Act), making the tax on voluntary annuities held by natural persons relatively low. This makes voluntary annuities particularly appropriate if the recipient has a high tax liability.
If the purchaser is not a natural person or a curator for a mentally impaired person, the full amount of the annuity is taxable.
You can structure an annuity to suit the annuitant's circumstances. Gordon says a voluntary annuity can be purchased for life and with or without a guaranteed term. If it is bought without a guaranteed term, the annuity is usually higher, but, should the person receiving the annuity die early, the annuity dies with him or her and nothing is paid to the beneficiaries.
If the annuity includes a guarantee (for example, 10 years or more), the annuity will usually be lower, but it will be paid for 10 years, even if the annuitant dies before the 10 years have elapsed. If the annuitant lives longer than 10 years, it continues paying until death.
Another option is to buy an annuity that includes an escalation clause to take account of inflation. In the beginning, the annuity will be lower than a level-term annuity, but the amount will increase annually. After a certain number of years, it will pay out more than a level-term annuity.
Gordon says if you want to invest in an annuity for a number of years and want to get back the original capital when the annuity ceases, most insurers have "income plans" to cater for this.
Part of the capital is invested in an annuity that provides an income for five or more years. The balance of the capital is invested in an endowment policy guaranteed to provide a return of capital when the term of the annuity ends. When the annuity ceases, you can access the capital or draw bonuses from the endowment, on which no further tax is payable in your hands. (Tax will be payable on the annuity, and income tax is payable on the endowment by the life assurance on any interest income, net rental and foreign dividends at a favourable rate of 30 percent.)
But Gordon warns that you need to compare the after-tax income of this structure with that of other investments, such as bank deposits or participation bonds, which also provide a capital guarantee.
VALUATIONS OF LIMITED INTEREST STRUCTURES
Limited interest structures are subject to the entire gamut of taxes, including income tax, estate duty, transfer duties, capital gains tax (CGT) and even secondary tax on companies.
Different taxes apply in different instances, and the methods of valuing a limited interest for taxation purposes can be extremely complex. Thus, expert advice is essential if you wish to avoid any unintended consequences.
Tasneem Carrim, the assistant general manager for communications at the South African Revenue Service (SARS), says academics could write reams of text on the taxation of limited interests. In a nutshell, however, the way a limited interest is taxed depends on the nature of the right involved and the circumstances surrounding the transaction or disposal.
"The calculation of any tax will obviously require a consideration of the tax base (including the time of recognition of the disposal), any applicable exemptions, limitations and exclusions, and the applicable rate or rates of tax."
Two scenarios
Personal Finance asked SARS to comment on the tax implications of the following scenarios:
1. If a former spouse is given a usufruct or habitatio right to occupy a property, with the bare dominium being held by the children, will any transfer duty or any other tax be payable when the usufruct or habitatio right is registered?
"Assuming we are dealing with the donation of immovable property to the children, subject to the usufruct or habitatio, the usufruct or right of habitatio in respect of the immovable property will have to be registered against the title deeds of the property," Carrim says. "Transfer duty will be payable by the person acquiring that real right, unless an exemption applies - for example, an exemption on terms of the Transfer Duty Act in respect of spouses married in community of property," she says.
"Donations tax may also be payable, unless the exemption in terms of the Income Tax Act in respect of donations to a spouse or another exemption applies.
"CGT provisions will also have to be considered - for example, the rollover in respect of disposals between spouses," Carrim says.
2. If a will grants a usufruct right to, say, a spouse to draw an income from an invested amount of capital until his or her death, with the bare dominium being held by the children, will any transfer duty or any other tax be payable when the usufruct is registered?
Carrim replies: "The usufruct need not be registered. Estate duty will be payable on the net value of the deceased's estate, including the value of the interest-bearing security, although the value of the usufruct granted to a spouse may be deducted from the net value in terms of Section 4(q) of the Estate Duty Act.
"The CGT provisions relating to deemed disposal on death will also have to be considered - for example, the exclusion in respect of the assets transferred to a surviving spouse in terms of the Income Tax Act."
Ascertaining the value
Tax experts interviewed by Personal Finance say it is important that limited interest rights are properly valued so that they can be appropriately taxed. Mortality tables, which project a person's life expectancy, are one of the tools used to value limited interest rights.
Graham McPherson, the managing director of First National Bank Trust Services, says when the holder dies, a limited interest is valued in the following way for estate duty purposes:
1. The annual value of the property to which the deceased was granted a usufructuary right must be ascertained.
2. The value of the usufructuary right to be received by any beneficiary of the right after the death of the original holder must be ascertained.
3. The annual right of enjoyment in (2) must be capitalised at 12 percent a year. On application, SARS may reduce the 12 percent a year capitalisation to a lower percentage if it can be shown that the income yield of the asset is lower than 12 percent a year.
4. Bare dominium (the right of actual ownership) is calculated by subtracting the value of the real right in the property over which a usufructuary right is held, from the asset's fair market value. The value of the limited interest can never be greater than the value of the asset.
The following examples, provided by McPherson, make specific reference to men and women, because different mortality tables are used for men and women, taking into account that, on average, women live longer than men do.
Example 1. Usufructuary right (passing to another)
Facts: B held a usufructuary right to a property worth R70 000 immediately before B died. On B's death, the usufruct passes to C, who is a woman aged 39.
Calculation:
- Annual value of property: 12% x R70 000 = R8 400
- Present value (PV) of R1 a year for C's life (who will turn 40 on her next birthday*) = R8 183.86
- PV of R8 400 a year for life: R8 183.86 x R8 400 = R68 744
- Value in B's estate = R68 744
*C can be expected to live for another 20 years.
Example 2. Usufructuary right (ceasing)
Facts: X, a woman, held a usufructuary interest immediately before her death. The usufruct ceases at X's death, and Y, the bare dominium holder and a man, acquires full ownership. The value of the property was R35 000 when Y acquired the bare dominium, and its value was R70 000 when he acquired full ownership. X was 46 years old when she acquired the usufructuary interest. Y was 39 years old when X died.
Calculation:
- Annual value of property: 12% x R70 000 = R8 400
- PV of R1 a year for Y's life (Y will turn 40 on his next birthday = R8 040.30
- PV of R8 400 a year for life: R8 040.30 x R8 400 = R67 538
(Note: The capitalised value may not exceed the difference between the present market value of the property and the value of the bare dominium when it was first acquired - assume after April 1, 1977).
Value of Bare Dominium
- Annual value of property: 12% x R35 000 = R4 200
- PV of R1 p.a. for X's life (X will turn 47 on her next birthday) = R8 031.19
- PV of R4 200 a year for life: R8 031.19 x R4 200 = R33 731
- Value of bare dominium when acquired: R35 000 - R33 731 = R1 269
- Present market value of property = R70 000
- Difference: R70 000 - R1 269 = R68 731
- Value of usufructuary interest in X's estate = R68 731
(Source of present values: Old Mutual. Premiums and Problems - Exam Edition No. 87. The present value amounts referred to in the above calculations are based on a present value of R1 a year capitalised at 12 percent over the expected life, which is different for men and women. The present value tables are calculated by actuaries).
LIMITED INTEREST STRUCTURES IN PRACTICE
We ask the experts to apply the information in the previous article to four common estate planning scenarios.
1. How do you ensure that minor children will be provided for, should you and your spouse both die?
When minor children are the beneficiaries of a will, it is customary to stipulate that the children's inheritance be paid into a testamentary trust administered by a nominated trustee, Jenny Gordon, a senior legal adviser at Old Mutual, says. The trust will provide for the minor children's income and capital needs until they reach majority or a later, specified age.
The main reason for placing the minors' inheritance in a trust is that minors cannot, by law, take ownership of any movable items or cash. In the case of cash, it must be paid to the Master of the High Court to be administered by the Guardians' Fund.
Movable goods may be handed to a guardian for safe custody, but the guardian may have to furnish security to the Master of the High Court to ensure delivery to the minor on majority.
Another reason for using a trust is that a reliable trustee may need to be appointed to administer the property and to make appropriate investment decisions for the benefit of the minor beneficiaries. Gordon says guardians often lack the necessary skills to administer an inheritance, which needs to last until the minor is self-supporting. A testamentary trust is an appropriate solution, she says, when there is no surviving parent.
The trustee would invest the money with a view to providing an income for the minors. The trust should be a discretionary trust, which would allow the trustee to make capital and/or income payments to the beneficiaries whenever appropriate to maintain a lifestyle similar to that which they enjoyed during their parents' lifetime.
Gordon says the choice of trustee is an important issue. There are a number of trust companies that perform this role, either alone or in conjunction with a family member or a lawyer, an accountant or a trusted friend of the deceased.
Peter Fairhead, the chairman of Fairheads International Trust Company, agrees that it is imperative to select efficient and responsible trustees who will seriously apply their minds to managing the minors' inheritance.
The best solution is to appoint an independent trustee who has financial expertise and who will work closely with the guardian of the minor or the curator of the incapacitated major. The guardian should be a genuinely caring person who has the interests of the minor at heart. When your children reach majority, or at a later age in terms of your will, the trust may disband and the capital paid to the beneficiaries, Gordon says.
From a tax perspective, a testamentary trust set up for minor relatives is classified as a special trust and enjoys the same tax rates as a natural person, apart from the primary and secondary rebates, which do apply to trusts. (Usually, the income generated by a trust is taxed at a flat rate of 40 percent.)
To the extent that income is earned and not distributed to the beneficiaries during any particular tax year, the income will be taxed in the trust. Income distributed to minors in the year in which it is earned will be taxed in the minors' hands instead of in the trust, so the children would need to be registered as taxpayers.
Assets transferred to a testamentary trust from the deceased estate do not enjoy any estate duty savings in the parents' estates. The estate is liable for estate duty and capital gains tax (CGT).
Fairhead says the trustees should entrust the investment of the assets to an independent third party who regularly reports back to the trustees on how the investments are performing.
If the parents choose to set up an inter vivos trust during their lifetimes, it can fulfil the same purpose as a testamentary trust, but it will not enjoy the tax status of a special trust. Certain estate duty savings can be achieved by establishing an inter vivos trust, but the parents would lose control of their assets during their lifetimes.
2. How do you ensure that your 22-year-old child who is incapable of supporting him- or herself, will be provided for after you and your spouse die?
As in the previous example involving minor children, a testamentary trust would be the most appropriate structure, Gordon says. However, where mentally and/or physically disabled children are concerned, inter vivos trusts also qualify as special trusts in terms of tax legislation.
3. How do you ensure that your second spouse is provided for until he or she dies, while the children from your first marriage actually inherit your assets?
There are various mechanisms, Gordon says, such as a usufruct, a fideicommissum or a trust.
A usufruct would work well in the case of a house. You could bequeath the house to your children, subject to a life usufruct for your surviving spouse. Your spouse would enjoy the usufruct and your children would own the bare dominium. Your spouse would not be able to dispose of the property, because he or she would not be the owner.
The value of the usufruct would be free from estate duty in your estate, because your spouse was the recipient. Only the bare dominium would form part of the dutiable estate. The value of the usufruct is dutiable in the estate of your surviving spouse when the usufruct ceases.
CGT would also apply, subject to the R1 million primary residence exclusion.
In the case of investible assets, again you could bequeath them to your children, Gordon says, subject to a life usufruct in favour of your surviving spouse. In this case, your spouse would be able to receive only the interest or income earned from the investment and not the capital.
Your spouse might have to provide security for the capital to the executor of the estate, unless your will provides otherwise. The usufruct would likewise enjoy the estate duty concession granted to spouses. Your spouse would be liable for tax only on the income he or she received; and estate duty and CGT on her death.
According to Gordon, an alternative would be to place the capital in a testamentary trust and make your spouse a sole beneficiary of the income generated in the trust. Your children would become beneficiaries of the capital upon your spouse's death. In order for you to benefit from the estate duty and CGT concessions for spouses, all the income of the trust would have to vest in the spouse to qualify. (Assets bequeathed to a spouse are not subject to estate duty or CGT at death.) The trustee cannot have any discretion as to whether the income is payable to your spouse or not; and you would have ensured that the income will be taxable in your spouse's hands only, and the trust will not pay any tax.
One drawback of a usufruct held within a trust is the estate duty implications. When the usufruct ceases, the estate duty and CGT liability in your spouse's estate, when she dies, might be greater than it would have been if she had held the usufruct directly, because the formula (in the Estate Duty Act) used to calculate the duty is more onerous where a trust is involved.
4. How do you ensure that your surviving spouse will receive an income from your farm, and that your son, who will have to run the farm, will also receive an income to support his family?
A usufruct would be inappropriate in this case, Gordon says, because it would give your surviving spouse all the income from the farm and leave your son without an incentive to run the farm, other than perhaps receiving a salary.
It is common practice for a farm to be bequeathed to a child on condition that he pays the surviving spouse an income from the farm (an annuity charged against the property) or an income unrelated to the farm (a personal annuity). The amount can be specified in the will.
Gordon warns that you need to be careful of the terms of an annuity established in a will, because annuities charged against property are dutiable in the estate of the annuitant, whereas personal annuities are not.
Another option is to arrange for the farm to be sold to the son, when the farmer dies, for a bequest price stipulated in the will. The son would then purchase life cover on his father's life to cover the purchase price. The money from the sale of the farm would then be paid into the residue of the estate, which is bequeathed to the wife to invest as she sees fit to produce an income.
The farmer's wife may then invest this in an annuity, purchased from a life assurance company, to provide her with the maximum income, leaving no capital after her death. Or, she may invest the capital to receive an income, and bequeath the remaining capital to her children on her death.
This article was first published in the 1st Quarter 2005 edition of Personal Finance magazine