By Jonathan Theunissen, CFP ®

As medical advancements continue to extend life expectancy, more individuals are living longer, increasing the prevalence of dementia and other forms of mental incapacity. This shift places significant emotional and financial pressure on families, who must navigate the complex process of safeguarding the financial well-being of their loved ones.

Understanding Powers of Attorney (PoA)

A Power of Attorney (PoA) is a legal document that allows an individual (the principal) to appoint another person (the agent) to manage their personal matters. These matters can include banking, investments, legal issues, or business dealings. The PoA can be customized to meet the principal’s specific needs; for example, the authority granted could be limited to managing a single bank account. PoAs are generally cost-effective, have no ongoing expenses, and can be revoked by the principal at any time.

However, it’s important to note that in South Africa, unlike in the USA, England, and Australia, a PoA becomes invalid if the principal loses mental capacity. South African law does not recognize an enduring PoA, meaning it cannot be used once the principal is mentally incapacitated. This limitation highlights the need for alternative planning strategies.

Planning Ahead: Options Before Losing Mental Capacity

Before the onset of mental incapacity, one effective tool available is the inter vivos trust. This type of trust is established with the investor as the beneficiary and trusted advisers or loved ones as trustees. Assets can be transferred into the trust either as a donation or a loan. It’s crucial to carefully consider the potential tax implications, including donations tax and capital gains tax. While the investor retains mental capacity, the trust is taxed as an ordinary trust. The conduit principle allows capital gains and income to be transferred to the investor, where they are taxed at individual rates.

Once the investor loses mental capacity, the trust can be converted to a Type A Special Trust under Section 6B(1) of the Income Tax Act of 1962. This special trust status is applicable when the founder’s ability to function is significantly impaired due to physical, sensory, communicative, intellectual, or mental impairments. The impairment must be irreversible, permanent, verified by a registered medical practitioner, and must have existed for at least 12 months.

To convert to a Type A special trust for tax purposes, trustees must submit specific documents to the South African Revenue Service (SARS), including the IT77TR form, the trust deed, and a medical report confirming the founder’s disability and inability to manage their own affairs or earn an income.

Type A special trusts enjoy favourable tax treatment compared to ordinary trusts. They are taxed at individual income tax rates ranging from 18% to 45% and benefit from the same capital gains tax exclusions as individuals, i.e., R40,000 annually and R2 million on the sale of a primary residence.

Additional Considerations

Certain financial products cannot be transferred into a Special Trust. For instance, living annuities cannot be transferred, assigned, reduced, or pledged to a third party under Sections 37A and 37B of the Pension Funds Act 24 of 1956 and SARS’s Binding General Ruling 58. Consequently, living annuities cannot be moved to a special trust, nor can their income be paid into the special trust’s bank account. Similarly, retirement fund accounts, life policies, tax-free investments, and direct offshore investments are also restricted from being transferred to a special trust.

Given the complexity of inter vivos trusts and special trusts, it is essential to seek professional legal and tax advice before taking any action.

Options After Losing Mental Capacity

Option 1: Curatorship

When mental incapacity has already set in, any person can apply to the High Court for an order declaring an individual to be of unsound mind and incapable of managing their affairs, and to appoint a curator bonis. The court requires substantial evidence of the individual’s incapacity. The appointed curator bonis can only act after receiving letters of curatorship from the Master of the High Court. Once appointed, the curator bonis operates under strict oversight to ensure that they act in the best interests of the incapacitated individual.

The curatorship application process is both time-consuming and costly, typically taking 10-12 weeks and costing R100,000 or more. Additionally, a curator bonis is entitled to 6% of the annual income of the estate and 2% of the capital in the estate upon the termination of the curatorship (e.g., at death).

Option 2: Administration

Alternatively, an application can be made directly to the Master of the High Court for the appointment of an administrator. This process is faster and less expensive compared to curatorship. The application involves submitting a completed MHCA 39 form, along with medical certificates from two independent mental healthcare practitioners confirming the diagnosis and prognosis, a list of the individual’s assets and income, and information about the person applying to be the administrator.

The administration process takes at least 14 days and can cost up to R15,000. It’s important to note that if the value of the mentally incapacitated person’s estate exceeds R200,000, or if their annual income is over R24,000, the Master may require further investigation to protect the individual’s interests.

Conclusion

Navigating the complexities of financial planning in the face of diminished mental capacity is both technically challenging and emotionally taxing. The legal intricacies and financial implications can be overwhelming, particularly when compounded by the emotional strain of caring for a loved one with dementia or other forms of mental incapacity. Given these difficulties, seeking professional guidance is not just advisable—it’s essential. Expert advice can help families make informed decisions that protect the financial well-being of their loved ones, ensuring they receive the care and support they need during a vulnerable time.