Maximizing Tax Benefits: Exploring Stamp Duty Exemptions for Family-Owned Property Transfers

 

The transfer of family-owned property from one family member to another may be subject to artificial tax liabilities that can be reduced through appropriate structuring of the transaction.

A direct transfer of property attracts payment of stamp duty at market value. Gifts made by an owner to another party during the lifetime of the owner are generally not exempt from stamp duty payment. There are, however, some exceptions to the general rule. These include:

1. The transfer of property to a registered family trust.
2. The transfer of property to a company wholly owned by the transferor.

1. The transfer of property to a registered family trust

Section 3D of the Stamp Duty Act exempts transfers of property made to a registered family trust from payment of stamp duty. A proprietor who transfers property to a family trust is not obliged to pay stamp duty.

The proprietor would transfer assets to the trust (thus becoming the “settlor” of the trust). This transfer may occur during the proprietor’s lifetime or through a will which takes effect upon death. Trustees would be appointed to hold and manage the trust property for the benefit of persons known as “beneficiaries”. In practice, a trust in property forming the personal estate of a person for the benefit of their family members takes the form of a family trust.

According to Section 3D of the Trustees (Perpetual Succession) Act, a family trust contains the following elements:

• It must be made in contemplation of other beneficiaries and not just for the settlor’s benefit;
• It must be made for the purpose of preserving or creating wealth for generations; and
• It must be a non-trading entity.

The process of registering a family trust is as follows:

• Firstly, the settlor must identify the properties that will be vested in the Trust, the beneficiaries of the Trust, the Trustees who will manage the Trust for the beneficiaries, and the purposes for which the Trust property will be managed. This is a vital preliminary point. The Trust cannot be established without these issues being clarified.  Where the guardians are also the owners of the properties, they can act as both the settlors and Trustees.

• Secondly, a TRUST DEED (hereinafter referred to as “the Deed”) must be drafted containing the following information:

• The objects and Constitution of the family trust.

• A description of the properties that will be held by the Trustees in Trust for the beneficiaries.
• A description of the beneficiaries of the Trust.
• The names and addresses of the Trustees.
• The proposed title of the Trust.
• The rules or regulations governing the Trust.

• The Deed must then be registered at the Registry of Documents. Stamp duty and other applicable registration fees are payable on registration of the Deed. To clarify, this stamp duty applies to the registration of the Trust and not to the transfer of any property to the family trust. The registration duty payable on the registration of the Trust is a very minimal and affordable amount. It does not exceed KES 500.
• The Trustees must then make an application to the Registry of Documents for incorporation of the Trust as a body corporate. The application shall be accepted or rejected within 60 days. The application is made in writing in the form of a petition and must be submitted together with the Deed. Per the Schedule to the Trustees (Perpetual Succession) Act, the application must specify the information contained in point 2.1. to 2.6. above, the proposed device of the common seal, and the regulations for the custody and use of the common seal.
• If successful, the Trust will be issued with a Certificate of Incorporation. Following this, the settlor can then transfer the properties to the Trust. As per Section 12 of the Trustees (Perpetual Succession) Act, the properties would then vest in the Trust and would be managed by the Trustees for the benefit of the beneficiaries.

This option has the following advantages:

• Outside of the stamp duty exemption, managing the properties through a registered family trust offers additional tax advantages. Paragraph 57 of the First Schedule to the Income Tax Act exempts any income received or earned by a registered family trust from income tax. Furthermore, Paragraph 58 of the same Schedule exempts the transfer of immovable property to a family trust from capital gains tax. This means that incomes and capital gains received by the Trust will be exempted from these taxes.

• The Trust Deed allows flexibility in the powers and duties of the Trustees which can be decided by the settlor prior to establishing the Trust Deed.
• If the Trust is formed during the lifetime of the settlor, the Trust properties shall not be subjected to probate proceedings as Trust property does not go through the process of succession. There is no need to appoint administrators in respect of the property.
• Section 52(6) of the Stamp Duty Act exempts transfers of property from a trustee or a person exercising a fiduciary role under the trust to a beneficiary of the trust from stamp duty payment. This makes a family trust suitable for transfers of property to minors. For example, a Trust Deed can contain a provision stating that the Trust properties be transferred to a minor (beneficiary under the Trust) when they reach the majority age of 18, and this transfer would be exempt from stamp duty.

However, the option of a Family Trust has the following disadvantages:

• The properties shall be vested in the Trust as a corporate body. This means that the beneficiaries will not have a direct proprietary interest and the Trust properties will only be managed for their benefit. In the case where the beneficiaries are minors, this is especially true where the Trust Deed does not provide that the properties will be transferred to the beneficiaries once they become adults.

• Family trusts are statutorily required to be non-trading entities under Section 3D of the Trustees (Perpetual Succession) Act. This limits the range of activities that the Trust can undertake.
• Setting up a Trust is a lengthy process in comparison with the second option we provide below.

2. The transfer of property to a company wholly owned by the proprietor

Pursuant to Legal Notice Number 92 of 2007, a transfer of family-owned property to a company that is wholly owned by the family is exempt from stamp duty. To exercise this option, the proprietor must do the following:

• The proprietor must register a private limited liability company where they hold 100% of the company’s shares. Per Section 13 of the Companies Act, the application for registration of a company is made to the Registrar of Companies. The application must contain the proposed name of the company, the proposed location of the company offices, and information on whether the liability of the members of the company is limited by shares or by guarantee, and whether the company is private or public.

• The application must be submitted together with the company memorandum of association, the proposed articles of association, and the statement of share capital.
• After the company is registered, the proprietor will then transfer the relevant properties to the company. As has been said, this transfer shall be exempt from the payment of stamp duty.
• If the proprietor wishes another family member to hold the property through the company, he may then gift his shares through a Deed of Transfer. The specific transaction of transferring shares is not tax-exempt. Stamp duty will be payable on this transaction. However, it is usually an affordable amount. The stamp duty will be assessed on the value of the shares. Therefore, it is advisable that the authorized share capital of the company be minimal.
• For example, the proprietor may transfer shares to a person who shall hold the shares in the company in trust for children of the proprietor, as minors.

This option has the following advantages:

• Registering a company takes a short time. It is a fast process that is undertaken through the government e-citizen portal.

• In the case where the transfer is intended to benefit certain minors, the shareholders to whom the shares shall be transferred will hold their shares in Trust for the minors. Accordingly, they are legally bound to utilize any incomes received from the shares for the minors’ benefit.

However:

• Under Section 3 of the Income Tax Act, the company will be subject to taxes on income received by the company. Per Section 7 of the Income Tax Act¸ dividends paid out to shareholders shall also be taxed. In the long-term, this presents tax deductions on income.

• Company law presents additional organizational and compliance requirements when compared to family trusts. For instance, under the Companies Act the company is required to have a registered office, it must have at least one director, and unless it qualifies for certain exemptions, it is statutorily required to lodge certain documents such as financial statements on an annual basis.

Conclusion

Which structure to opt for depends on various factors. While registering a family trust is a lengthy process, the option of establishing a company comes with administrative requirements and tax deductions on the property to be transferred.