Situs – The Myths and Reality

Investing offshore as a South African has become hugely popular, and any FSP worth their salt has an offshore offering – because it is so popular it has also become extremely competitive, and less scrupulous operators have been taking advantage of the possible complications to frighten or lure clients – which is unnecessary and unacceptable. Much of the ‘slight of hand’ happening out there is a sin of OMMISSION rather than COMMISSION, in other words, it is what they are NOT telling you that is the more grievous sin (but also less likely to get them into trouble with the regulators).

Investing offshore in one shape or form is a no-brainer for South African Investors. There are sectors of markets offshore, with huge growth potential, that are just not available on the JSE. Think Tech, Social Media, AI and Energy just to name a few. There is also the added advantage of hedging against the ever-depreciating Rand. FSPs have jumped on this bandwagon for years and for some of them, instead of picking the route of identifying clients and persuading them of the right route to take guided by , they are trying to parasitize funds already invested offshore and luring them to their platform of choice, and what better way than to use the fear of Situs Tax.

SITUS TAX
Put simply, Situs tax (from the Latin for location) is the Estate Duty/Death Tax imposed by a country on its non-resident investors or property owners. More accurately, Situs tax is a tax that is imposed on assets based on their location or situs. The situs of an asset is the jurisdiction where the asset is deemed to be located for legal purposes. For example, the situs of real estate is the country or state where the property is located. The situs of shares of stock is the country or state where the company is incorporated.
Situs taxes are often imposed on assets that are located in a particular jurisdiction, even if the owner of the asset is not a resident of that jurisdiction. For example, the United States imposes an estate tax on assets that are located in the United States, even if the owner of the assets is not a U.S. citizen or resident. You can probably see where the potential problem comes in… You’re a South African, and you own US shares on, say, a South African or European platform – now when you die there is the potential of Situs tax being levied.

One of the problems is that the US tax system, especially Estate Duty, is very onerous for non-residents. If you are a US non-resident, there is a $60,000 abatement per person (allowance before the Estate Duty tax is levied) and the rate that is then levied is 40%. This is not transferable to a spouse which means that upon the first spouse’s death the estate duty is already levied. Compare this with if you are a US resident where the abatement is then $12m!. For comparison sake, in RSA there is a R3,500,000 abatement and 20% Estate duty on the residue, and this is transferable to a spouse making the full abatement R7m. In the UK it is GBP 350,000 and 40% estate duty but is also transferable to the spouse if not used. Sure, RSA has a double taxation agreement on estate duty with the US, so the estate will not pay double estate duty, but you’re still going to pay the higher rate of 40%!

The potential of this onerous Situs tax sounds bad, right? No, this is where some FSPs are weaponizing that potential threat in order to suggest remedial actions which may not yet be required. The good news that you may not be told by your FSP, is that the US has yet to come after investors outside of the US for Situs tax on shares held in their own name, and there is no indication that they are going to do so anytime soon. Frankly, for the IRS, it is probably a case of it costing way more than they could ever hope to collect by trying to collate bits of SITUS tax that is owed to them. They would have to know the beneficial owner of every single US share, and be alerted to the fact that such owner has died and that SITUS tax applies… not a small feat.

Despite US authorities yet having to collect SITUS tax, you may continue to be concerned about its effects. In such a case one would need to weigh up the capital gains in a portfolio as the only way to deal with SITUS tax is to liquidate a portfolio of direct shares and to transfer the cash proceeds to a vehicle which protects against this. One such a vehicle is a mutual fund (an offshore Unit Trust).
To make an appropriate decision as an investor, it is important to arm oneself with basic knowledge so that you can ask any prospective financial planner the important questions, and determine if they really understand the nuances, so that appropriate advice can be given.
Here are some of the questions to ask:

1. Where is the investment located or incorporated?
2. What are the probate regulations (domicile based Will and Estate rules) in that location (If an investment has to go through probate in the location which it is kept, this can only be done after the RSA estate is finalized, and therefore takes up to a year longer to wind up than in a tax agnostic location where the estate is wound up concurrently.)
3. Is there an option for a survivor account (so the investment is not frozen while the estate is wound up).
4. Is the investment in shares or some sort of unitized product (UCIT, Note, Unit Trust, ETF, Mutual fund). Check the internal fees of these products and also the fees earned by the advisor.
5. If the investment is in shares, CAN Situs tax be applied, and HAS IT EVER been applied in that location.
6. If I have to sell shares and assets held directly, what are the CGT and other fee implications?
7. If a Trust, quasi-Trust or other fancy vehicle is being recommended, what are the additional costs and terms (length of time it’s stuck there) applied?
8. What is the method by which capital will be moved into a Trust and is this appropriate for the investor?
   What is our advice?
9. Pick a location that is tax agnostic and doesn’t require an additional Will or probate (we use Switzerland for that exact reason). Steer well clear from US, UK (and a bunch of other locations) where it would be easier for the IRS or the equivalent to levy such tax.
10. You can wait until, or if, the Situs tax becomes a reality in your location. Your Financial Planner or Asset Manager should be on top of this at all times, but obviously, the level of communication you get from them could be less than ideal. If you are investing yourself, at least now you’re aware of the potential problem. We put out a (free) weekly newsletter and podcast where we communicate these sorts of changes to our readers and listeners.
11. A Mutual fund/ ETF/Unit Trust/ UCIT/Note or other structure is one way to get around this long term, and is certainly something that we continue to look into, but you cannot just sell your share portfolio and go into a structure – Capital Gains tax will apply.
12. Investment within a Trust can also get around this problem, but this is an expensive solution to a potential problem, and of course, you cannot just move all your assets into a Trust without incurring donations tax (20% in RSA). This is often one of the sins of omission that I referred to above. South Africa isIf a loan account is used to transition investments into a Trust, this now has to be interest-bearing (which somewhat negates the benefits of capping the value of the asset in the Trust). Loan accounts form part of the individual’s estate, and will be taxed as such, but this then gives the Estate the opportunity to wipe out the loan account for the Trust for the benefit of the future beneficiaries, but word of warning: Trusts are coming under increasing scrutiny, and aren’t the same secure solution they were 10 or 20 years ago. For example, in RSA, if you want to make use of the R10m annual offshore allowance, you have to declare your beneficial interest in all Trusts and Companies, local and offshore. This change was put in place in March 2023 in response to the abuse of these offshore vehicles by ‘bad actors’ that partially led to us being Grey listed. (Closing the door once the horse is bolted IMHO).
13. Remember that South Africa is a member of AEOI, Automatic Exchange of Information, and when added to the SARB enhanced requirements for disclosure of beneficial ownership anywhere in the world, our main concern is in the loan accounts/donations to offshore Trusts. If this is not compliant with RSA Tax/Trust law – in other words investments or assets have been placed immediately and directly in the Trust without donations tax or using a loan account – then the penalties could be nasty. While you may be able to fly under the radar if it is already set up, on your death this will raise it’s ugly head. This is another potential problem that we find has fallen under the ‘sins of omission’.
14. If you can have a joint/survivor account – the investment then does not need to be closed for probate, but estate duty might still apply if it is not a spouse but a child used in the survivor account.
    At Rexsolom we deliberately use Switzerland as our ‘location’ because they are ‘tax agnostic’ – in other words they don’t withhold any tax, including Capital Gains or Estate Duty, nor do they require a separate Will but will accept a South African Will. This isn’t the case in many other popular locations for RSA offshore investments, specifically the Channel Islands or Isle of Man where the investment requires a separate Will, with extra executor/probate fees. Remember that you should add an extra 6-12 months for the final winding up of an estate with assets held in these locations. While estate duty may not be applied in these locations, it does not exempt them from RSA estate duty.

So, what is the takeaway from all of this?

Investing offshore is a very good idea for any South African Investor. You can start with Rand-denominated offshore funds or a DIY share platform, but once you have a critical mass (Say $50k) then use your annual allowance to take it properly offshore. And by properly offshore I mean with a financial institution, platform or Bank that has no ties to RSA. That is why we use a Swiss Bank (no, not CS or UBS). South African FSP’s have offshore representatives offerings but we believe that if assets are offshored, it needs to be placed with a service provider with very little ties back to South Africa. If you have a critical mass, you can properly diversify your holdings without paying high brokerage fees on relatively small lots. Of course, I would recommend a Financial Planner and/or Wealth Manager with offshore experience – they are far more likely to pick up on changes in regulation or behavior of tax regulatory bodies and advise you accordingly. They will also ensure that you are appropriately diversified by asset class, location and sector in order to achieve your objectives.