Meaning of Trust
A trust is a fiduciary relationship in which one party, known as a trustor, gives another party, the trustee, the right to hold title to property or assets for the benefit of a third party, the beneficiary. While they are generally associated with wealthy people trying to protect their idle riches, trusts are highly versatile instruments which can be used for a wide variety of purposes to achieve specific goals, by both the general public and the government.
For an example: A father (Trustor) sets up a trust account in the bank (Trustee) for the college education of his child (Beneficiary). The bank is entrusted with a certain fixed amount that will be provided to the child at the time of his college education. This is an example of liquid family trust.
A trust arrangement is formed by the trustor, trustee and beneficiary. Let’s discuss the meaning of these parties to the trust arrangement:
- Trustor/Settlor: A trustor is a person who creates the trust and transfers property to the trust vehicle/trustee and causes the trustee to administer or dispose of trust property on behalf of and for the benefit of the beneficiaries, in accordance with the trust objectives.
- Trustee: A trustee is a person who receives the trust property transferred from the settlor and is under the obligation to administer and dispose of trust property on behalf of the beneficiaries in accordance with the trust objectives. The trustee can be identical to the trustor or a separate person or an entity.
- Beneficiary: Beneficiary refers to a person who receives the distribution of trust income / trust property from the trustee in accordance with the terms of trust. The beneficiary can be identical to the trustor or a separate person, entity or public. The beneficiary does not need to be an existing person.
Types of Trust: It’s a mess
Trust can be of several types and since each trust could have its own unique objective for its establishment the arrangement, incorporation, taxation, existence, duration and other such attributes could be very different from one trust arrangement to another. Thus, it’s hard to categorize the trust, so we will use some broad categorization to understand the types of trust.
On the basis of management
Types: State Managed Trusts and Public Managed Trusts
When the properties, donations, land and artifacts of religious, cultural or social significance are managed by the government then they are called state managed trusts. State managed trusts used to prevail in Nepal before the enactment of the Guthi Corporation Act 2033, after which the trust properties were managed by a Guthi Corporation established under the same Act.
After the introduction of the Guthi Corporation Act, the State Trusts maintained directly by the government were removed from the jurisdiction of the government and placed them under the Corporation to operate the state trusts in a systematic manner to consolidate the laws and to balance the economic and moral interests behind the religious and social trusts existing since history.
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Category of State Trusts
The State Trusts (राज गुठी) managed by the Guthi Corporation were in historic times established with the order of Kings and Ranas of Nepal in Government Lands. These are now managed/overseen by the Corporation. The State Trusts can further be divided into two types:
Exempt Trusts
In Exempt Trusts (छुट गुठी), the land revenue payable to the land revenue office is exempted. Exempt Trusts can operate the trusts from the donation collected and only the surplus obtained after the expenses of the trust, or a fixed royalty amount will be subject to be paid to the Guthi Corporation, or even none at all. The trusts under the Exempt Trusts are of high religious, cultural significance, existing well before the establishment of the Guthi Corporation Act, and thus enjoy this exemption facility. However, this is not an income tax exemption facility but since these trusts do generally qualify the tax exemption criteria under the Income Tax Laws, tax exemption is also not uncommon.
Wage System Trusts
In Wage System Trusts (अमानत गुठी), the trusts are managed by the Guthi Corporation through a wage system to the trustees (Mahants or Priests). These trusts are operated by the trustees for a wage by the trustees for a specific duration and under the trustee’s care, control and direction. Any donation surpluses of such trusts are receivable by the Guthi Corporation.
Category of State Trust Lands
The land held under the State Trusts can be categorized as follows:
गुठी रैतान नम्बरी जग्गा
Land registration holder is required to pay land revenue to Guthi Corporation
सरकारको साटो गुठी संस्थानले जग्गाको मालपोत उठाउन पाउने जग्गा यो प्रकारमा पर्छ । यसमा जोतहाको हक रैकर जग्गाको जग्गाधनी सरह हुन्छ र उसले जग्गा खरिद बिक्री गर्न पाउंछ ।
गुठी तैनाथी जग्गा
Guthi Corporation has exclusive right, as land is not registered in name of any person
कुनै पनि व्यक्ति मोही हुन नसक्ने र गुठी संस्थानको पूर्ण स्वामित्व र भोगको जग्गा गुठी तैनाथी जग्गा हो । यो जग्गामा गुठी संस्थानले आफै वा बोलकवोलबाट अरु मार्फत खेती लगाउछ ।
गुठी नम्बरी जग्गा
Guthi Corporation, in capacity of land registration holder, is required to pay land revenue to Government of Nepal
गुठी संस्थानले दर्तावाल जग्गाधनीको हैसियतले सरकारलाई मालपोत (कर) बुझाउनु पर्ने जग्गा गुठी नम्बरी जग्गा हो । यसमा स्थायी मोही हुन सक्छ तर उसले आफ्नो घर बाहेकको जग्गा खरिद बिक्री गर्न पाउदैन ।
गुठी अधिनस्थ जग्गा
Land registration holder is paying in-kind rent to the Guthi Corporation
गुठी संस्थानको नाममा दर्ता नभई सर्वसाधारणको नाउमा दर्ता भएको जग्गा तर ति सर्वसाधारणले गुठी संस्थानलाई वार्षिक रुपमा निश्चित बाली (कुत) बुझाउनु पर्ने जग्गा गुठी अधिनस्थ जग्गा कहलाउछ । यस्तो जग्गा खरिद बिक्री गर्न पाइन्छ र पोत सरकारलाई बुझाउनु पर्छ ।
गुठी जिमिदारी जग्गा
भूमी सम्बन्धी ऐन २०२१ को दफा ३ र गुठी संस्थान ऐन २०३३ को दफा २२ ले जिमिदारी र गुठी जिमिदारी उन्मूलन गरेपछि “शिर वा जीरायत” को रुपमा रहेको गुठी जग्गा “गुठी रैतान नम्बरी” जग्गामा परिणत भए ।
शिर/जिरायत: “शिर वा जीरायत” जग्गा “खान्गी” वापत जमिनदार वा मुखियाले आफैले आवाद गरी खान्थे । “शिर वा जीरायत” जग्गाको जति हिस्सा अर्कामा सथ्र्याे त्यति नै जिमिदारी पनि अर्कामा सथ्र्याे । कुनै जिमिदारले “शिर वा जीरायत” जग्गा राखी गुठी स्थापना गरेको अवस्थामा उक्त गुठीले नै जिमिदारको भूमिका निर्वाह गथ्र्याे ।
रैकर: रैकर जग्गाको मालपोत उठाएर जिमिदारले सरकारलाई बुझाउथे ।
Glossary
- रैतानी: रैतानको काम; किसानी ।
- रैती: अरूको जग्गा कमाउने व्यक्ति; मोही ।
- नम्बरी: सरकारी फिरिस्तमा दरिएको भाग पाउने रकम, इज्जत वा मान ।
- जोतहा: हलो जोत्ने व्यक्ति; हली; खास किसान; मोही। (Tiller)
- रैकर: अरू कसैको अधीनमा नभएको, रैती आफैँले सरकारमा तिरो तिरेर कमाउने जग्गा; तिरो वा बाली तहसिल गर्ने गरी सरकारद्वारा रैतीलाई कमाउन दिएको जग्गा; राजगुठी र सरकारी लिखतबाहेकको, राज्यकरको प्रत्यक्ष रूपमा रहेको गैह जग्गा ।
- तैनाथ: अधिकार; हैकम; अख्तियार ।
- मोही: कुत तिर्ने सर्त वा कबुलमा अर्काको जग्गा कमाउने व्यक्ति; मोहिया । (Tenant)
- कुत: कबुलअनुसार खेत वा बारी कमाउँदा मोहीले जग्गाधनीलाई बुझाउनुपर्ने निश्चित अन्न; बालीको ठेक्का; मोहीबाट तल्सिङले पाउने अन्नबाली; तिरो ।
- पोत: जग्गाधनीले सरकारलाई तिर्नुपर्ने कर; जग्गाको कर; तिरो; कुत।
- अधिनस्थ: सूचीकृत ।
- जिमीदार: जमिनदार; भूपति; जिम्दार । भूमिप्रशासन लागु हुनुभन्दा पहिले तराई भेकको भूमिकर उठाउने ठेकदार; तराईको जिम्मावाल।
- जिरायत: जिमीदारी प्रथा कायम हुँदा जिमीदारका खान्कीमा ठेकिएको जमिन; सिरजमिन।
- खान्की/खान्गी: निश्चित समयमा पाउने गरी ठेकिएको रकम वा वस्तु; तलब, बेतन, महिनावारी।
- ठेक: सालिन्दा बुझाउने गरिएको तिरो वा दस्तुर । ठेक्कामा बुझाउनु पर्ने रकम वा मालसामान।
- सालिन्दा: हरेक साल, प्रतिवर्ष; बर्सेनि ।
- ऐलानी: सरकारी रूपमा कसैको नाममा दर्ता नभएको खेतीयोग्य पर्ती जग्गा। आबादी गर्नका निमित्त फुकाइएको पर्ती जग्गा।
- पर्ती जग्गा: खनजोत नभएको वा नगरिएको जमिन; बालीनाली नलगाएको बाँझो जग्गा।
- उकास: पुरानो जमिनदारी प्रथाअनुसार दुई नम्बरको सिर जग्गा। कसैको हकभोग बाँकी नभई सरकारको हक भएको जग्गा ।
- तिर्जा: १. पुरानो चलनअनुसार सैनिक अफिसर जवानहरूले जागिरको सट्टा बाली मात्र उठाई खान पाउने गरी पाएको जग्गाको रसिद; जागिरबापत तोकिएको बाली उठाई खान पाउने रसिद । २. जग्गाजमिनको नम्बरी प्रथा वा त्यस्तो जग्गालाई दिइने निस्सा ।
- चकबन्दी/चकलाबन्दी: भूमिसुधार कार्यक्रमअन्तर्गत रैतीहरूको जग्गाको चकला मिलाउने अभियान, चकलाबन्दी ।
A small misnomer Alert: The trusts that are under the purview of the Guthi Corporation are defined as State Trusts and others are called Private Trusts under the Guthi Corporation Act, 2033. However, the meaning of Private and Public Trusts, as defined by the Civil Code of Nepal differ from that meaning. Hence, the Alert ! Further discussion in the category by Objective below. So, the Public Managed Trusts (defined as “Private Trusts” in Guthi Corporation Act) are the trusts other than the State Trusts.
On the basis of Objective
Types: Public Trusts and Private Trusts
Chapter 6 (Section 314 to 351) of the National Civil Code of Nepal provides the provisions relating to incorporation, operation and arrangement of trusts in Nepal. Under Section 315 of the Civil Code, trusts established with certain objectives are treated as Public Trusts. These objectives generally include programs for economic / infrastructure development, poverty alleviation, academic institutions, health and safety, wildlife / environment protection, sports, social welfare, religious, cultural and similar public interest programs.
In the context of the Civil Code of Nepal, Private and Public Trusts differ in certain aspects. They are treated differently in the registration process, general eligibility for tax exemption criteria, nature of the beneficiary, dissolution of the trust and similar other aspects. Thus, setting up and maintaining Public Trusts thus differs from the Private Trust.
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For the purpose of the Civil Code of Nepal, Trusts other than those established as Public Trusts are Private Trusts. These are generally maintained as Family Trusts, Testamentary Trusts or Trusts benefitting a limited number of people. A private trust is a trust for the benefit of an individual or individuals and is enforceable by the beneficiaries. Unlike a private trust, a public trust is an express trust for a public, religious, or charitable purpose. The main difference between private and public trust is that private trusts have definite and specific beneficiaries, whereas public trusts typically do not have specific individual beneficiaries.
On the basis of the Funding
Types: Funded Trusts and Unfunded Trusts
A funded trust has assets put into it by the trustor during their lifetime. An unfunded trust consists only of the trust agreement with no funding. Unfunded trusts can become funded upon the trustor’s death or remain unfunded. In an unfunded trust, some event like trustor’s death or some future event leads to the transfer of the asset into the trust.
Since there could be a risk where the founder would not settle the property required into the fund, a two tier trust system for unfunded trust is established. The first trust to acquire the property from the trustor where the beneficiary of the trust would depend on the event upon which the funding to the second trust will be triggered. If the triggering event takes place, the property gets settled to the second trust to benefit the end beneficiary, else the property would revert back to the original trustor. This way the end beneficiary would not be affected by the failure of the original trustor to fund the trust.
But is this arrangement required in the testamentary trust? This we will discuss below.
On the basis of Revocability/Extancy
Types: Revocable Trusts (eg. Living Trusts) and Irrevocable Trusts (eg. Testamentary Trust / Inter vivos)
A revocable trust describes the trust in which the terms can be changed at any time by the trustor. An irrevocable trust describes a trust that cannot be modified after it is created without the beneficiaries’ consent.
Both forms of trust are permissible to be established in Nepal but the objective of the trust can be changed only by the founder/settlor writing an application to the Registrar under Section 356 of the Civil Code of Nepal.
A testamentary trust is a trust that is established in accordance with the instructions contained in a last will and testament. Under Section 320 and Section 321 of the Civil Code of Nepal, like in many other countries, the trustor is required to transfer the property settled for the trust to the trustee within a period of three months of the establishment of the trust. But this requirement doesn’t apply in the case of testamentary trust as a testamentary trust is not established until after the person passes away in which the executor settles the estate as outlined in the will. This has also been provided under Section 316(3) of the Civil Code of Nepal.
On the basis of Tax Exemption
Types: Tax Exempt Trusts and Taxable Trusts
Tax Exemption could be a topic for whole another discussion. Broadly, Income Tax Act, 2058 provides tax exemption under Section 10(ka) and 2(dha). Income tax exemption under Section 10(ka) is available only to the person entitled to privileges under a bilateral or a multilateral treaty or agreement concluded between GON and a foreign country or an international organization. So a trust receiving tax exemption under this criteria is not very likely.
However, a trust of public character of a non profit organization can obtain the tax exemption from the Revenue Department under Section 2(dha) of the Act. More discussion on that topic here: Tax Exemption under 10(ka) and 2(dha).
On the basis of Benefit
Types: Fixed Trust and Discretionary Trust
Fixed trust (also known as an interest in possession trust) is the trust in which the trust document sets out who the beneficiaries are and how the income and capital of the trust is to be dealt with. Trustees do not have any discretionary power. This type of trust may be used to enable property to be held for persons who cannot themselves hold it, i.e. a minor child or incapacitated person, or to allow a life or limited interest to be given to a beneficiary.
Discretionary trusts are the trust where the potential beneficiaries are named in the trust document but do not have any right to the assets or income of the trust. The trustees have absolute discretion as to whom, and how much, if any, a beneficiary may receive. This allows the trustees to allocate the property of the trust to beneficiaries based on future needs and circumstances. In the case of a discretionary trust set up under a Will, the settlor normally provides a ‘letter of wishes’ indicating how they would like the property to be distributed which may influence the trustees.
Establishment of Trust in Nepal
Establishment, arrangement and operation of trusts in Nepal at the current stage is very nascent. It still has a lot of growing up to do. The tax laws and the trust laws in the Civil Code do not exactly work in tandem. In the current scenario, considering the situation of the present laws of Nepal, it is very hard to arrange and operate trusts in Nepal. The main problem being the tax consequences on the trust. This we will discuss in detail below in each separate topic.
Incorporation of a Trust
Registrar for Trusts
The present trust laws in Civil Code of Nepal has defined the term “Registrar” as the authority provided for by law for the registration, supervision and liquidation of trusts. As of the date no such authority has been defined, so the Registrar for such purposes is Land Revenue Officer in the concerned district as such authority is not yet provided for to another person.
A trust is a complicated structure and in absence of the proper Office of the Trust Registrar, the incorporation and arrangement of trust thus becomes very difficult. Currently, under Section 316 of the Civil Code, trust registration, incorporation and overseeing is expected to be done by the Land Revenue Office of the concerned District, but Trust Arrangement could very well include complicated assets or properties than just lands, so the administration of trusts is just coming into existence in Nepal and needs a lot of growing up to do.
Documents required for establishment
Regarding registration requirements, under Section 318 of the Civil Code, a private trust may be operated even without registration, a simple intimation of the registrar regarding the operation of the trust suffices the registration requirement. However, even private trusts in many cases are required to be registered for the purposes of tax, so registration with the trust registrar, although optional, is more preferable.
Private trusts like testamentary trusts or liquid family trusts may never require registration as your executor or your banker will have them handled for you without any hassle. But private trusts with securities or immovable properties are preferable to be registered to ease to the executor for tax compliances.
Under Section 316 of the Civil Code, a person who intends to establish a trust should make an application to the Registrar detailing:
- Value and details of the property held for the trust,
- Beneficiary, and benefit and facility to the beneficiary, the terms and limitation thereof,
- If the trust is to be established for any particular period, matter relating thereto,
- Memorandum of incorporation of the trust,
- Trustee’s name and photocopy of the deed relating to his or her consent,
- Copy of the deed, if any, executed for the establishment of the trust,
- Copy of a reliable deed relating to the trust settler’s identity, and, in the case of the trust settler being a body corporate, certified copies of the documents relating to the incorporation of the body corporate and of the decision by such a body corporate in relation to the establishment of trust,
- Receipt of payment of the fees chargeable by law for the registration of trust.
Trust Memorandum is the most important and critical document for establishment of trust. Much thought has to be given to execute this document. We will discuss some critical portions of the memorandum document again in a separate section below. Under Section 317 of the Act, following matters should be set out in the memorandum of incorporation of a trust:
- Names, surnames and addresses of the founders of the trust, and, if a body corporate is the founder, names, surnames and addresses of the directors of such body,
- Objectives and nature of the trust,
- Names, surnames and addresses of the trustees, details of the business to be performed by them, and, if a body corporate is a trustee, name, surname and address of the person designated by the body to act as the trustee,
- Details of the beneficiaries,
- Method of use of the trust property,
- Details of the tenure of the trustee, if any, so specified,
- If the beneficiaries are entitled to remuneration or other facilities, details thereof and limitation,
- If the trust is intended to be established for a certain period, details of such period,
- In the event of termination of the trust, consequences thereof,
- Provisions relating to the operation, management and monitoring of the trust property,
- Other necessary matters.
Foreign Trustor
A foreign settlor can also establish trust in Nepal but they are not allowed to establish trust for establishing shrines, temples, monasteries, domes, mosques, churches or carrying out similar other religious activities. However, under Section 316 of the Civil Code at least one-thirds of the trustees of such trusts shall be Nepali citizens having permanent residence in Nepal.
Provisions on Trustee
Fiduciary holding of asset
Fiduciary holding of assets by the trustee is the basic philosophy of any trust arrangement. This provision is provided under Section 347 of the Civil Code as well to reinforce the same concept. Section 347 provides that any trust property operated and managed by the trustee shall not be counted as the property of the trustee for the purpose of assessment of tax or for any other purpose. Sometimes the title of the trust property may be with the trustee or any other third person but in any case, the assets are deemed to be held by the trustee in fiduciary capacity. This characterization is necessary for both the protection of the asset and taxation of the trust. So, Assets owned and liabilities owed by a trust or a trustee in the capacity of trustee (other than as a bare agent) are treated as owned or owed by the trust and not any other person.
Entity as a Trustee
Trustee can be an entity too. Under Section 327 of the Act, a body corporate which is established in accordance with law may be appointed as a trustee. Where an entity is appointed as a trustee, the person working as the chief of such an entity or a person to whom the power is delegated by a decision of the board of directors of such an entity shall act on behalf of such entity. The term “person working as the chief” means the chairperson, director, managing director, general manager, executive director of such an entity or a person empowered by such entity to work as its chief.
Rights and Duties of Trustee
Chapter Six of the National Civil Code (Section 332 to Section 342) provides some provisions on the rights and duties of a trustee. Some of them have have been listed below:
- If the trustee has used his or her personal property or other’s property in the course of the protection of the trust property, accomplishment of the object of trust or protection of the benefit of the beneficiary, the trustee shall be entitled to reimburse the amount for such property from the trust property.
- Except as otherwise provided for in the memorandum of incorporation, in addition to the powers, duties and liabilities clearly set forth in Chapter Six of the National Civil Code, such other powers and duties as may be required for the implementation and accomplishment of the object of trust, care and protection of the trust property and protection of the rights and benefits of the beneficiary shall be deemed to be vested with the trustee.
- The trustee shall carry out the object of trust as set forth in the memorandum of incorporation, and in so carrying out the object, the trustee shall discharge functions honestly and according to his or her capacity and diligence.
- The trustee shall prepare an inventory of the trust property and update the records thereof, and, in the case of a public trust, a copy of such records shall be submitted to the registrar each year. The inventory shall also reflect the total assets, loans, or if such property has been invested in any business, principal, interest or other returns of such investment.
- The trustee shall protect and maintain the trust property, and may also make any kind of such legal action or complete any kind of such formality with any public authority as may be required for this purpose.
- In protecting or maintaining the trust property, the trustee shall take proper and reasonable care of, and do act conducive to the enhancement of, the trustee property as if the property were his or her own.
- No trustee shall so possess or use the trust property for himself or herself or other person as may be prejudicial to the benefit of the beneficiary.
- It shall be the duty of the trustee to prevent destruction, termination of, or otherwise loss to, the trust in a manner prejudicial to the benefit of the beneficiary or contrary to the object of the trust. If the trust property is not managed properly or is made subject to cheating or fraud or is embezzled or used for other purposes, any trustee or beneficiary may, subject to the provisions set forth in the memorandum of incorporation, file a complaint in the court for the prevention of such embezzlement. In case of the public trust, any one whosoever may file a complaint.
- If it is held that the trust property has not been managed properly or has been made subject to cheating or fraud or embezzled or used for other purposes, the court shall recover the claimed amount from the embezzler and may also order compensation to be paid by a trustee if the trustee has committed such embezzlement.
- In the event of the breach of trust under Section 338 of the Civil Code, the trustee so breaching trust shall be responsible for the loss and damage caused to the beneficiary and bear liability for the same.
Accounts and Audit
Under Section 337 of the National Civil Code, the trustee is required to maintain accounts in a manner to reflect clearly and actually the accounts of the trust property. The trustee is required to provide account statements thereof to the registrar, and trust founder or beneficiary if they intend to inspect the same.
Regarding audit of the trust’s account, in the case of a public trust, the trustee shall have its accounts audited by a recognized auditor each year and submit a copy of the audit report to the registrar. Auditing of the private trust is not compulsory but if the private trust is registered for tax purposes then tax audit as required by the Income Tax Law will be required.
Relinquishment by beneficiary of his right
Beneficiaries of a private trust may relinquish their rights as a beneficiary. In the case of a private trust, the beneficiary who is competent to make a contract may, by a notice in writing to the trustee and the registrar, relinquish any or all of his or her right, benefit, facility or interest from the trust property. If every beneficiary wholly relinquishes the right, benefit, facility or interest from the trust property, such a trust shall be deemed to have been dissolved. Relinquishment of the right by public trust is not possible as the public trust intends to serve the public at large rather than a set of private beneficiaries.
Appeals and Lawsuits
Under Section 349 of the National Civil Code, any party who is not satisfied with any order or decision made by the registrar pursuant may make an appeal to the concerned High Court within thirty-five days after the date of knowledge of such order or decision. There shall be no statute of limitation in relation to the following matters if a person who is aggrieved from any act done or action taken pursuant to this Chapter is to make a lawsuit: (a) Embezzlement of the trust property, (b) Fraud or forgery of any document relating to the trust property, (c) Embezzlement or misappropriation of the trust property, (d) Derivation of benefit by the trustee contrary to the terms of the memorandum of incorporation of the trust, (e) Restitution of the trust property or its value or income from the trustee or other person. For matters other than these, a lawsuit may be made within six months after the date of the accrual of cause of action in relation to the matter.
Amendment of Trust Memorandum
It is possible for the trustor to make amendment in the trust memorandum but if it is a amendment of the object of the trust the trustee will have to apply to the Registrar for such change. Under Section 356 of the National Civil Code if on an inquiry into an application made by the trustee, the reason for the amendment or alteration in the object set forth in the memorandum of incorporation seems to be reasonable, the registrar may issue an order to amend or alter such object. The trustees, however do not generally have the power to alter, amend or vary the trust memorandum but it is possible to provide the trustees to have power to amend given within the provision of the trust memorandum.
Don't mess these Clauses in Trust Memorandum
Trust Property Related
Sale/transfer of Trust Property
Under Section 322 of the National Civil Code, the trustee is required to operate and manage the trust property subject to the terms and restrictions set forth in the memorandum of incorporation. However, if the provision relating to sell, mortgage, or transfer of the immovable property is not provided in the memorandum, a prior permission has to be obtained from the Registrar and also the trustee is required to furnish the reason and grounds for such a transaction and how it may result in more benefit to the beneficiary.
Investment of surplus amount of Trust
This issue may not be of a huge concern to a private trust who have already laid down their formal investment and income distribution plan in the memorandum but it is wise to have this thoroughly provided for in the memorandum. Sometime due to distribution plan, beneficiary caps and program expenses, the income derived from trust property may be more than actual trust disbursements. Such surpluses may be utilized to make investments. However, when the investment plan is not provided in the memorandum of the trust, the trust may have to amend the trust memorandum or the trustee shall have to resort back to the default investment plan provided in Section 323(4) of the Act. The trustee shall, from time to time, carry out monitoring as to the investment made and if it appears from such monitoring that the returns of investment made in one sector be lesser, such investment shall be withdrawn and made in another sector yielding more returns, subject to the terms and restrictions of the investment. In making monitoring or investment, the opinion of an expert in the concerned sector may, as required, be obtained.
Title of Assets
As discussed above in the “Fiduciary Holding of an Asset”, despite the actual title of the property, the assets of the trust are deemed to be held by the trustee in fiduciary capacity. Under Section 345 of the National Civil Code , the trust property shall be entered as such in the records of trust and held in the name of the person specified in the memorandum of incorporation and in the name of the beneficiary, if such a person is not specified in the memorandum of incorporation. If, in the case of a public trust, the memorandum of incorporation provides for the establishment of a separate body corporate for the operation and management of the trust property, such property shall be held in the name of the body corporate so established.
Devolvement of Trust
What happens when a trust is dissolved? Who does the assets of the trust devolve to? Under Section 348 of the National Civil Code, in the case of a public trust, except as otherwise provided for in the memorandum of its incorporation, the trustee may, by order of the registrar, hand over the trust property to any other trust with the identical object or to any public body with similar objects if such other trust is not available. Similarly, in the case of a private trust, the trustee shall hand over the trust property to the beneficiary, if identified, or to the nearest successor to the beneficiary if the beneficiary is not available or to the trust founder if even such successor is not available or to other successor if even the trust founder is not available. If such person is not available, the property of the dissolved or voided trust shall devolve on the Government of Nepal. If the memorandum of the trust fails to specify whom the trust property devolves to in the future, it will follow the provision in the Civil Code so it is beneficial to both the trustors and beneficiaries to have the asset devolvement defined in advance in the memorandum to prevent any involuntary devolvement of assets. If a trust once established is dissolved or voided for any reason, such dissolution or voidance shall not affect any act already done.
Trust Documents Custody Related
Generally when the memorandum fails to specify the custody of the trust documents remains with the trustee. Under Section 339 of the National Civil Code, except as otherwise provided for in the memorandum of incorporation, the deeds, documents of the ownership and possession of the trust property and other proofs and evidences pertaining thereto shall all be in the custody of the trustee, and in the case of a public trust, the trustee shall submit copies of such deeds and documents to the registrar.
Trustee Related
Appointment and Disqualification
Under Section 324 of the National Civil Code, a trustee shall be responsible for the operation, management, protection and care of the trust property for the benefit of the beneficiary. Except when provided otherwise in the memorandum of incorporation, the founder of the trust shall appoint the trustee. In the event of the failure to appoint or inability to appoint the trustee, the founder of trust shall be deemed to be the trustee.
Under Section 325 of the National Civil Code, following person shall not be qualified to be a trustee: (a) A person who is not competent to make contract, (b) A person who has embezzled a property in his or her custody, (c) A person who has been convicted by a court of the offense of corruption, (d) A person who has been sentenced for a criminal offense involving moral turpitude, (e) A person who is the sole beneficiary of the trust property.
An important note to observe from the disqualification criteria is that a person who has (i) embezzled a property in his or her custody, (ii) been convicted by a court of the offense of corruption, (iii) been sentenced for a criminal offense involving moral turpitude, cannot even be a trustee for the testamentary trust or liquid family trusts, a separate trustee needs to be appointed. Further, a person who is the sole beneficiary of the trust property cannot be a trustee because it would defeat the meaning of trustee as being a fiduciary holder of assets for the benefit of another person.
Trustee’s Vacancy and Fulfillment
Under Section 328 of the National Civil Code, the office of the trustee shall be fallen vacant in any of the following circumstances: (a) If the person is not qualified to be a trustee, (b) If the person resigns from the office of a trustee, (c) If the person dies or is dissolved or liquidated or becomes insolvent in accordance with law, (d) If, in the case of a body corporate, it is dissolved, liquidated or becomes insolvent in accordance with law, (e) If a trust is established for a certain period and such a period is completed, (f) If the trustee is appointed for a certain tenure and such a tenure is completed, (g) If the trustee is removed by the trust founder or court on the ground that he or she has embezzled the trust property or has not taken a reasonable care of such property. The vacancy of the trustee’s position is filled as per the procedures set forth in the trust memorandum. But if the provisions of the memorandum fail to appoint the trustee, (i) the beneficiary, or (ii) the concerned local level, if there is no beneficiary or beneficiary cannot be identified, shall submit an application to the District along with the list of possible candidates for appointment. The District Court shall appoint to the office of trustee an appropriate person from the list of candidates provided.
Trustee’s Role of Succession
Under Section 329 of the National Civil Code, when the trust memorandum fails to provide otherwise regarding the roll of succession of the trustees, after the death of a trustee, his or her eldest son, daughter-in-law or daughter shall succeed the office of a trustee according to the roll of succession, and if there is no one out of them, his or her heir shall succeed the office of trustee. If the successor of the trustee is not qualified to be the trustee, his or her guardian or the person taking care of him or her shall perform the obligation of the trustee on his or her behalf until such a person becomes qualified.
Deadlock due to Trustee’s Vacancy
Section 330 of the National Civil Code resolves a deadlock situation that could potentially arise due to the vacancy in the trustee’s office. If there exists a situation that the office of trustee falls vacant in entirety and the office of trustee cannot be filled immediately, the Local Level shall function as the trustee until the office is filled. Otherwise, the Local Level will have to resort to the fulfillment under Section 328.
Number of Trustee
Under Section 326 of the National Civil Code, unless otherwise provided for in the memorandum the number of trustees shall be minimum one and upto seven in maximum. However, under Section 329, if there is a provision that one’s descendents are entitled to be the trustee, the descendents of such a person shall succeed the office of trustee according to the limit of their respective rights, and the provisions of limitation in the number of trustee shall not apply to such case.
Decision making by Trustee
If the trust memorandum fails to provide otherwise the decision making of the trust shall be made as per the provision under Section 331 of the National Civil Code. Except as otherwise provided for in the memorandum of incorporation, the trust with more than one trustee shall be operated by consensus decision of all the trustees as far as possible. In the event of failure to reach consensus, the trust may be operated by a majority decision of the then existing trustees, and if that is not possible, by the decision of the eldest trustee.
Limitation in Trustee’s Acts
Section 342 of the Civil Code has provided some list of activities that cannot be done by the trustee unless otherwise provided in the memorandum of trust. These activities include the nature of the use of the trust property, delegating the responsibility, obtaining remuneration allowance and facilities other than permitted by the registrar or purchasing or otherwise receiving pledge, mortgage, lease or rent the trust property during or before at least three years of retirement from the office of a trustee and so on. Furthermore, the trustee shall not make any economic transaction between his private property and the trust property. He shall make compensation for the loss, if any, to the trust property from such transaction.
Beneficiary taking over trustee
Under Section 343 of the National Civil Code, except as otherwise provided for in the memorandum of incorporation, in the case of only one beneficiary, after he or she becomes competent to make contract, and in the case of more than one beneficiary, after all of them become competent to make contract and reach consensus, such beneficiary or beneficiaries may direct the trustee to hand over the trust property to him or her or them, and if any direction is so given, it shall be the duty of the trustee to abide by such direction. However, in the case of public trust there are no identifiable beneficiaries so this provision shall not apply to the public trust.
Taxation of Trust in Nepal
Taxation of trust in Nepal is unorganized and inefficient. There are no specific provisions on taxing trust arrangements in Nepal and the present tax laws of Nepal makes the establishment of the trust completely inefficient from a tax perspective.
Is the Income Tax Directive any help here?
Short Answer: No. These are all the illustrations and examples that Income Tax Directive has to offer in relation to the taxation of the trusts in Nepal. Here it goes:
परिभाषा
शारीरिक वा मानसिक रूपले असक्षम व्यक्ति वा मृत व्यक्तिमा रहेको निकायको सम्पत्ति धारण गरी सहयोग गर्ने प्रबन्धलाई ट्रष्ट भनिएको छ । केही असामान्य अवस्थाका करदाताले कर तिर्ने प्रयोजनमा स्वतः खडा हुने निकाय ट्रष्ट हो । उदाहरणका रूपमा भजन ब्रदर्शको प्रोपाइटरको माघ २४ गते मृत्यु भयो यो अवस्थामा कर तिर्ने प्रयोजनकालागि निजले श्रावण १ गतेदेखि माघ २४ गतेसम्म फर्मबाट गरेको कार्य तथा दफा ४४ बमोजिम मृत्युको तत्काल अघि फर्मका सबै सम्पत्ति बजारमूल्यमा बिक्री भएको मानी गरिने लाभ सहितको आय विवरण कसैले बुझाइ दिनुपर्दछ र निजको सम्पत्ति पनि कसैले जिम्मा लिनु पर्दछ मृत व्यक्तिको कर लाग्ने अवधिको कर तिर्न जसको सहयोग लिइन्छ वा यस्तो अवस्थामा सो सम्पत्ति जिम्मा लिने व्यक्ति वा व्यक्तिको समूह कर प्रयोजनका लागि ट्रष्ट हो । आयकर ऐन, २०५८ मा दुई थरी ट्रष्टको व्यवस्था गरिएको छ दर्ता भएको वा नभएको ट्रष्ट र अर्कोको सम्पत्ति रेखदेख गरिदिने व्यक्ति । पहिलो प्रकारको ट्रष्टको कर निर्धारण कम्पनीको सरह गरिन्छ । दोश्रो प्रकारको ट्रष्टमा जसको सम्पत्ति धारण गरी व्यवस्थापन गरिदिएको हो सोही व्यक्तिलाई कर लगाई कर तिर्ने प्रयोजनका लागि मात्र ट्रष्टको अवधारणा कायम गरिएको छ ।
ट्रष्टी भन्नाले कुनै ट्रष्टको व्यवस्थापन गर्न जिम्मेवारी सुम्पिएको व्यक्तिलाई जनाउँछ । ट्रष्टीले एक्लै वा अन्य व्यक्तिसँग संयुक्त रूपमा कार्य सम्पादन गर्न जिम्मेवारी प्राप्त गर्न सक्दछन् । उदाहरणको लागि, ट्रष्टका सञ्चालकहरु, नाबालक (वा यस्तै असक्षम व्यक्ति) को संरक्षक, आदि ।
निकायमा रहेको हित
निकायमा रहेको हित (Interest on Entity) भन्नाले साझेदारी फर्मको हकमा सो फर्मको मुनाफा लगायत सो फर्मको सम्पत्तिमा साझेदारको अधिकारलाई जनाउँछ । कम्पनीका हकमा शेयरहोल्डरले उक्त कम्पनीमा गरेको लगानीको प्रतिफल लगायत उक्त कम्पनी खारेजी (Liquidation) हुँदाको अवस्थामा प्राप्त गर्ने नियमित वा थप रकम प्राप्त गर्न सक्ने सांयोगिक अधिकार (Contingent Right)लाई जनाउँछ । अवकाश कोषमा सो कोषमा लगानीकर्ता (हिताधिकारी) ले लगानी गरे बापत लगानी गरिएको रकम तथा सोको प्रतिफललाई जनाउँछ । त्यसैगरी ट्रष्टमा हिताधिकारीको हित रहन्छ भने विदेशी स्थायी संस्थापनमा सो संस्थापनको मालिकको हित रहेको हुन्छ
बासिन्दा व्यक्ति
नेपालमा स्थापना भएको ट्रष्टको ट्रष्टी सम्बन्धित आय वर्षमा बासिन्दा व्यक्ति भएको, वा ट्रष्टलाई आय वर्षमा बासिन्दा व्यक्ति वा निज संलग्न भएको व्यक्तिहरुको समूहले प्रत्यक्ष वा एक वा बढी मध्यस्थ निकाय (इन्टरपोज्ड इन्टिटी) हरुको माध्यमद्वारा नियन्त्रण गरेको ट्रष्टलाई पनि नेपालको बासिन्दा मानिन्छ । यस अवस्थालाई तलको उदाहरणबाट प्रष्ट पारिएको छ ।
उदाहरण २.२१: मानौं, भारतको कोलकातामा एउटा ट्रष्ट सञ्चालनमा रहेछ । उक्त ट्रष्टलाई नेपालका बासिन्दाहरुले नियन्त्रण गर्ने गरेका रहेछन् भने त्यस्तो ट्रष्टलाई पनि नेपालको बासिन्दा मानिन्छ ।
मृत / अशक्त बासिन्दा व्यक्तिको ट्रष्ट
२३.४.५ मृत बासिन्दा व्यक्तिको सम्पत्ति प्राप्त गर्ने वा रेखदेख गर्ने वा अशक्त बासिन्दा प्राकृतिक व्यक्तिको ट्रष्टको करयोग्य आयमा लाग्ने कर गणनाको सम्बन्धमा ऐनको अनुसूची-१ को दफा २ को उपदफा (५) मा निम्न व्यवस्था रहेको छ: अ.१.२(५): कुनै आय वर्षमा कुनै मृत बासिन्दा व्यक्तिको सम्पत्ति प्राप्त गर्ने वा रेखदेख गर्ने वा अशक्त बासिन्दा प्राकृतिक व्यक्तिको ट्रष्टको करयोग्य आयमा सो सम्पत्ति प्राप्त गर्ने वा रेखदेख गर्ने वा त्यस्तो ट्रष्टलाई बासिन्दा प्राकृतिक व्यक्ति सरह मानी यस अनुसूचीको दफा १ को उपदफा (१) र उपदफा (४) बमोजिम कर लाग्ने छ ।
ट्रष्ट एक निकाय भएतापनि उपदफा (५) मा उल्लेख भएको ट्रष्टको उद्देश्य प्राकृतिक व्यक्ति (मृत वा अशक्त बासिन्दा प्राकृतिक व्यक्ति) को सम्पत्ति रेखदेख गर्ने भएकोले त्यस्तो ट्रष्टको आयमा प्राकृतिक व्यक्तिलाई लाग्ने करको दर लाग्ने व्यवस्था रहेको छ यस्तो ट्रष्टलाई एकल व्यक्ति मानी दफा १ को उपदफा (१) र उपदफा (४) बमोजिम कर लाग्दछ ।
Taxation on the Trust
Section 2(t) of the Income Tax Act, 2058 defines “trust” as an arrangement whereby a trustee holds any property. Similarly, Section 2(u) of the Act defines “trustee” as an individual, trust or other body corporate who, individually or jointly with other individual, trust or corporate body, holds a property in trust, and the term also includes:
- The operator or administrator of the assets of a deceased,
- A liquidator, recipient or trustee,
- Any person who protects, directs, controls or manages the assets of an incapacitated person in personal or official capacity,
- Any person who manages the assets under a private enterprise or similar other enterprise, and
- Any other person in a position similar to that of the person as referred to in above.
For the purposes of Income Tax Laws of Nepal, trusts are treated as an entity. A “unit trust” is not a trust for the purpose of tax laws of Nepal, they are treated as a company under Section 2(m) of the Act. This is because a unit trusts a collective investment fund that is priced, bought, and sold in units that represent a mixture of the securities underlying the fund, regulated and managed by the Securities Board like an entity.
Since the trusts are an entity for the tax purposes, the provisions of the tax laws applicable to the entity are also applicable to the entity. As per Rule 23 of the Income Tax Rules 2059, any person who intends to (i) derive assessable income or (ii) make a payment from which the person will be required to withhold tax, shall apply to the Revenue Department for a PAN before deriving the income or making the payment, as the case requires. Private trusts like testamentary trusts and liquid family trusts do not derive income under normal circumstances, thus they might not need tax registration but other forms of the trusts do typically require the registration for tax purposes. Since the present tax laws of Nepal regarding the taxation and registration of the trusts are not very fleshed out this is an area where the law could be reformed.
So we have learnt that the “trusts” are treated as an “entity” for tax purposes and the income of the trusts are thus taxable as such, unless they qualify to be a tax exempt entity. Private trusts do not qualify for being tax exempt entities under the prevailing tax laws of Nepal. More discussion on tax exempt entities here: Tax Exemption under 10(Ka) and 2(dha). There is one more exception to the general rule of taxing trust as an entity. Schedule 1(2)(5) of the Income Tax Act, 2058 of Nepal provides that the taxable income of a person acquiring or taking care of the property of any deceased resident person, or of a trust of a resident individual with disability as if such person acquiring or taking care of such property or such trust were a resident individual. The tax rate of an individual follows the progressive tax bands unlike the flat rate of taxation applicable to entities.
Another important question is: Does the residency of the trust affect its taxation? As per Section 2(ao) of the Income Tax Act, in respect of the trust, the following trusts are treated as resident trust: (a) Which is established in Nepal, or (b) The trustee of which is a resident person in an income year, or (c) Which is controlled by a resident person or by a group of persons comprising such a person, directly or through one or more interposed entities. An entity’s global income is taxable in Nepal if it is a resident of Nepal and only the Nepal sourced income if it is not a resident of Nepal. So for our purpose, a resident trust is taxable in Nepal. More discussion on the source principle of the income in my other blog here: Income Sourced In Nepal: Definitive Analysis
In summary, the tax implications on the trust is as follows:
When the assets are put into the trust
When the trustor settles the assets into the trust, this is not an income to the trust. Rather, this is a creation of an interest in the trust arrangement on the behalf of the beneficiaries. So this should not be construed as an income of the trust. So at the point when the assets are put into the trust there should not be any tax implications on the trust. There may be tax consequences on the settlor/trustor at this point which we will discuss below.
When the trust generates the income
When the trust generates the income, it will be subject to withholding taxation on the income derived by it as per the prevailing laws. The net income of the trust will also be subject to taxation just like any other entity, assuming it is not a tax exempt entity. There is one particularly problematic issue when computing the income of a trust in Nepal, which we will discuss further in the section below in “The Problem of Double Taxation”.
When the trust income are are distributed to the beneficiary
When the income derived by the trust is distributed to the beneficiary, the trust will not be subject to any taxes, because it is being distributed to the beneficiaries. But depending on the nature of the income being distributed the withholding of the income may be required. Since the distribution of income by a trust to its beneficiaries is not specifically dealt with in the Income Tax Act there may be confusion as to whether such distributions will be treated as dividend distributions withholding at 5% or other payments at 15% of the amount being paid. But I think this would be a wrong way to deal with the distributions by a trust to its beneficiaries.
Under Section 2(KaGha) of the Income Tax Act 2058, dividend means dividend of an entity as mentioned in section 53. Since trusts are also a form of entity and the meaning of dividend under Section 53(3) also encompasses the distributions of an entity, the withholding at the rate of 5% is likely to be applicable even in the case of distributions by the trust. But Section 54(1) of the act exempts the distributions made by resident entities (other than resident companies and resident partnerships) to its beneficiaries from tax. So the distribution by a trust is exempted from tax and there is no point in debating about the withholding tax rate. This we will discuss further in the taxation of the beneficiary below.
When the assets are taken out of the trust
Assets may be taken out of the trust by the beneficiaries or the trustor himself under limited circumstances. Unless otherwise provided in the trust memorandum, Section 343 allows the beneficiary of the trust to direct the trustee to hand over the asset to beneficiaries. Similarly, by incorporating in the trust memorandum, a trustor may form a revocable trust, where the settlor person who forms the trust can change it or revoke it at any time – the trust beneficiaries other than the settlor have very few rights. Because the settlor can change the trust at any time, he or she can also change the beneficiaries at any time. Often a trust is revocable until the settlor dies and then it becomes irrevocable.
When the assets are taken out of the trust the by the trustor or the beneficiary as above, this will mean that the trust entity is disposing of the property without consideration and this well be an instance of the non-market transfer which will trigger the application of Section 45(1) and the trust will be deemed to have disposed of the asset at its market value or tax base, whichever is higher. This may lead to the notional income being attributed to the trust entity at the point of withdrawal of assets from the trust and the trust will be required to pay taxes on such income on the basis of the tax rates applicable under the tax laws. The higher of the tax base or market value at the point of settlement will be the tax base for the trustor/beneficiary acquiring the property.
Taxation on the Trustor
A trustor is a person who creates the trust and transfers property to the trust vehicle/trustee and causes the trustee to administer or dispose of trust property on behalf of and for the benefit of the beneficiaries, in accordance with the trust objectives. A trustor is the one who forgoes his assets for the establishment of the trust arrangement. A trustor may be an individual or an entity. A trustor may be resident or non-resident for tax purposes. These attributes will impact his tax consequences.
In summary, the tax implications on the trustor is as follows:
When the assets are put into the trust
When the assets are put into the trust, the interest is created in trust in the benefit of the beneficiaries. This means that the trustor is disposing of the property without consideration for and this will be an instance of non-market transfer which will trigger the application of Section 45(1) and the trustor will be deemed to have disposed of the asset at its market value or tax base, whichever is higher. This may lead to the notional income being attributed to the trustor at the point of settlement of assets to the trust and the trustor will be required to pay taxes on such income on the basis of the tax rates applicable to him under the tax laws. The higher of the tax base or market value at the point of settlement will be the tax base for the trust acquiring the property.
When the trust generates the income
When the trust generates the income, the trust itself will be subject to taxation, as applicable. This event will not bring any tax consequences on the trustor.
When the trust income are are distributed to the beneficiary
When the trust incomes are distributed to the beneficiaries, the beneficiaries may be subject to taxation, as applicable. This event will not bring any tax consequences on the trustor.
When the assets are taken out of the trust
As discussed above, assets may be taken out of the trust by the trustor. By incorporating in the trust memorandum, a trustor may form a revocable trust, where the settlor person who forms the trust can change it or revoke it at any time and withdraw the assets back. At this point the trustor is the one deriving the asset due to the reason of the deemed disposal under Section 45(1) so tax liability will fall on the trust.
But the important question is will there be tax consequences on the trustor reclaiming the trust’s assets? There could be genuine debate regarding this. On the one hand the trustor reclaiming the trust’s assets based on power of the trust memorandum is neither: Wills, Inheritance, Scholarships or Gifts to be eligible to claim the exemption under Section 10(Cha) of the Income Tax Act. On the other hand the trustor is simply unwinding the trust arrangement and reclaiming the trust’s assets so it is only fair and neutral that he is able to reclaim those assets without the burden of being taxed. This of course will not be an issue in the family trust arrangement because the transfers between the three generations are tax neutral in family trust and since such reclamation is essentially a transfer of equitable rights to the property from the beneficiaries of the trust to the person within three generation, this will be tax neutral by the virtue of taxation of Non Business Chargeable Assets under Income Tax Act. In my view this should be tax neutral even when the beneficiaries are other than those within three generation as the trustor is simply winding the trust and reclaiming his assets back by the power of trust memorandum. It’s either as safe as that or one needs to be really careful when drawing a revocable trust.
More discussion on this topic in my other blogs here:
Taxation on the Beneficiary
Beneficiary refers to a person who receives the distribution of trust income / trust property from the trustee in accordance with the terms of trust. The beneficiary can be identical to the trustor or a separate person, entity or public. The beneficiary does not need to be an existing person.
In summary, the tax implications on the beneficiary is as follows:
When the assets are put into the trust
When the trustor settles the assets into the trust, this creates an equitable interest of the beneficiary in the trust arrangement. At this point the trustor will be required to pay taxes on the notional gains derived from the deemed disposal under Section 45(1) as discussed above in trustor’s taxation. But the important question is: Will this be an income for the beneficiary of the trust?
Section 10 of the Income Tax Act, 2058 provides that Wills, Inheritance, Scholarships and Gifts that are not subject to inclusion under Section 7, Section 8 or Section 9 of the Act, only then are exempted from taxation. Elsewise they are subject to inclusion under some heading of Employment, Business or Investment Income and will be taxed accordingly. But how to test if the particular will, inheritance, scholarship or gift leading to the creation of the trust may be: (i) exempt from taxation, or (ii) subject to inclusion under Section 7, 8 and 9.
It mainly depends on:
(i) Whether the transaction is mere transfer of wealth or some form of consideration under employment, business or investment?
(ii) Is the tax deduction granted to the transferor on such transfer of wealth?
There are not clear guidelines provided to test this difference in the Income Tax Act or Manuals. Here is the only explanation provided by the Income Tax Manual in this regard:
रोजगारी, व्यवसाय वा लगानीसँग सम्बन्धित उपहार आयका सोही शीर्षकमा समावेश गर्नुपर्ने हुन्छ । त्यस्तै आकस्मिक लाभ कर लाग्ने बाहेक उपहार, ईच्छापत्र, अपुताली वा छात्रवृत्तिको रूपमा प्राप्त गरेको रकमहरू, जस्तै, विवाहको समयमा प्राप्त दाइजो, गरिब वा जेहेन्दार विद्यार्थीलाई उपलब्ध हुने छात्रवृत्ति जस्ता रकमहरू समेत कर छुट हुने रकम मानिन्छ । यस सम्बन्धी व्यवस्था तलको उदाहरणबाट थप प्रकाश पारिएको छ :
उदाहरण ९.२.५ : मानौं, गोपी बान्तवा नेपाल सरकारबाट प्राप्त छात्रवृत्ति अन्तर्गत कुनै मेडिकल कलेजमा MBBS पढिरहेका रहेछन् । सो बापत रु.१५ लाख खर्च हुन आउने रहेछ । यसको अलावा निजले मासिक रु.१० हजार थप नगद पनि सोही छात्रवृत्ति अन्तर्गत प्राप्त गर्ने गरेका रहेछन् । यसरी अध्ययनको लागि भएको खर्च एवम् प्राप्त रकम निजको आयमा समावेश गर्नु पर्दैन त्यस्तो रकमलाई छुट हुने रकम मानिन्छ ।
So it is more likely that the beneficiary will be exempted from the taxation at this point. This is more safe to assume in the case of family trusts because in Nepal there is no concept of the inheritance tax any taxes made applicable at this point is essentially an inheritance tax. See detailed discussion on this topic here in my other blog: S.10(Cha) v/s S.2(Ja1): ITA
When the trust generates the income
When the trust generates the income, the trust itself will be subject to taxation, as applicable. This event will not bring any tax consequences on the trustor.
When the trust income are are distributed to the beneficiary
When the income derived by the trust is distributed to the beneficiary, there is a question as to whether the beneficiary of the trust will be subject to taxation on that income.
Under Section 2(KaGha) of the Income Tax Act 2058, dividend means dividend of an entity as mentioned in section 53. Since trusts are also a form of entity and the meaning of dividend under Section 53(3) also encompasses the distributions of an entity, the withholding at the rate of 5% is likely to be applicable even in the case of distributions by the trust. But Section 54(1) of the act exempts the distributions made by resident entities (other than resident companies and resident partnerships) to its beneficiaries from tax. So the distribution by a trust is exempted from tax and the beneficiaries will not be subject to any taxes on the distribution made by the trust. In the context of Nepal where entities(in our case “trust”) are mostly taxed at flat 25% and individuals could be taxed upto 36% on their income, this could potentially give opportunity to the wealthy individuals to manage their taxes and shelter their wealth in the trust structure to minimize the taxes. This we will discuss further in the FAQ section below.
When the assets are taken out of the trust
As discussed above, assets may be taken out of the trust by the beneficiary. Unless otherwise provided in the trust memorandum, Section 343 allows the beneficiary of the trust to direct the trustee to hand over the asset to beneficiaries. At the point of such transfer the beneficiary is the one deriving the asset due to the reason of the deemed disposal under Section 45(1) so there will be tax consequences on the trust.
But the important question is will there be tax consequences on the beneficiary acquiring the trust’s assets? Since the beneficiaries are simply obtaining the assets where they already do have the equitable interest, beneficiaries should not be subject to any taxation at this point. Same discussion that we made in “When the assets are put into the trust” above would apply here to prove this point. Please refer above.
Some FAQs on Trust Taxation
Can the executor of the testamentary trusts be taxed?
Section 44 of the Income Tax Act contains a market value rule for transfers resulting on the death of an individual. Typically, this transfer will be, in the first instance, to the deceased’s estate, which will be administered by an executor or administrator. The estate will be a trust and, therefore, treated as a separate person. As a result of section 44, the deceased may realize gains or losses from the realization of assets and liabilities that must be included in calculating the deceased’s income. The executor or administrator will be required to pay any outstanding tax of the deceased on his notional income. The estate will have market value outgoings with respect to assets transferred from the deceased and market value incomings for transferred liabilities. Any further transfer to a beneficiary of the deceased will also be treated as made at market value.The result is likely to accrue some gain or loss to the estate. Some gain or loss to the estate may occur in isolated circumstances, e.g. where there is substantial delay between the date of death and the date of transfer to the beneficiary.
This approach means that the death of an individual is viewed as the final time of reconciliation for gains or losses accruing during the life of the deceased. This approach does not turn the income tax into an inheritance tax. An inheritance tax is a tax on the transfer of assets and the income tax is primarily targeted at creations of wealth. With respect to assets and liabilities passing on an individual’s death, the tax laws only reaches gains or losses that accrue to the deceased, the recognition of which were delayed during the deceased’s life. Many countries provide some relief from the recognition of gains at death. However, this approach almost invariably causes distortions. It will either encourage or discourage the transfer of assets before death or at the time of death. Nevertheless, this approach may not be acceptable to particular countries and the approach should be adjusted to account for local considerations. For example in Nepal transfer by way of will, inheritance between three generations of the family is tax neutral.
Can assets settled to the trust-benefit of the person within three generations be treated as transfer within three generations?
There is no clear provision regarding this question in the tax laws of Nepal. But obviously and naturally, the trustee is only the legal owner of the property in trust, as fiduciary holders for the benefit of the beneficiaries. It is the beneficiaries who are the equitable owners of the trust property. Trustees are thus the fiduciary owners and beneficiaries are the equitable owners. So in my view the tax laws should consider the equitable owners to determine if the asset settled to the trust whether or not qualifies to be treated as the transfer of the property within three generations. So, yes, in my view, the assets settled to the trust that has the person within three generations assigned as beneficiaries does qualify to be treated as the transfer of the asset within three generations.
Can trusts form a wealth shelter in Nepal?
Unlike in other countries, in Nepal trusts are not taxed on a look through basis. The income of the trusts are taxable and the distributions of the trust are not taxable to the beneficiaries. It is actually quite a huge surprise that this position of the law has not been changed yet. Since the tax rate applicable to the individuals can be as high as 36% and that the entities are taxed only at the rate of 25% this has allowed for the trusts to be used in Nepal as a tax shelter device. An interesting topic to be delved into later.
How does the Tax Law in Nepal differ from the Symmetrica Model Law on taxation of trusts?
Unlike in Nepal, in Symmetrica Model Law trusts are taxed on a semi-look through basis. Their income or loss is calculated on a separate entity basis. However, losses are not allocated to beneficiaries. Income may be allocated to beneficiaries but only in limited circumstances and, in the case of resident trusts, not in any tax year after the year in which the income is derived. Income that is not allocated to a beneficiary is taxed at the trust tax rate, which is equal to the highest rate for individuals. This restricts the use of trusts as a tax shelter device. Income tax imposed on a trust is calculated in the same manner as for individuals. This is the primary difference between the tax law of Nepal and Symmetrica Model Law on taxation of trusts.
This is a sample tax code for a hypothetical Commonwealth of Symmetrica, for use as reference material to provide assistance in the preparation of legislative acts and the application of laws. The IMF was assisting in the drafting of income tax laws for a number of common-law-based countries. In particular, the “Equitable Republic” sample (still in progress), which is of a similar nature, formed the starting point from which the Symmetrica sample was developed. Nevertheless, the Symmetrica sample developed in a very different direction from the Equitable Republic sample, warranting their separate consideration.
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