Are trusts still safe to use for BEE purposes?

BEE has been a feature of the South African business environment for a while. A number of businesses have been battling with the B-BBEE ownership requirement. Without black ownership, it is almost impossible to achieve a Level 4 B-BBEE status or better, which may negatively impact businesses in South Africa. It is true that some businesses do abuse trusts as an allowed vehicle to circumvent the Broad-based Black Economic Empowerment Act (B-BBEE Act). In some of these schemes no real black beneficiaries are identifiable and are often referred to as ‘faceless’ beneficiaries. This is clearly abusing the law. The government will continue to attack such structures with the result that businesses may suffer.

The law allows and encourages the use of trusts
Shareholding can either be held directly by black people, or through a variety of entities as an indirect form of B-BBEE ownership such as Broad-Based Ownership Schemes (B-BOS) and Employee Share Ownership Programmes (ESOPs) in terms of the existing B-BBEE Codes (paragraph 3.1 of Code Series 001). A B-BOS or ESOP structure can operate as an association of members, a non-profit company, a private company or a trust. A trust is a useful vehicle to use because of its flexibility to cater for broad-based empowerment, such as the youth, disabled employees, communities and the poor, whom the B-BBEE policy and legislation aim to benefit. Such structures are required to benefit a larger base of people, rather than to benefit a single person or small groups of people, which would defeat the objective of Broad-based Black Economic Empowerment. It is important to note that ESOPs, trusts and B-BOS have specific rules that need to be complied with - e.g. that at least 85% of the value of benefits allocated must accrue to black people, 50% of the fiduciaries must be independent, 50% of the fiduciaries must be black people and 25% must be black women.
On 29 of November 2018 the B-BBEE Commission issued a guide entitled “Understanding the use of Trusts in B-BBEE Ownership Initiatives”. Two important issues were raised by the Commission. The one issue was in relation to educational trusts. The B-BBEE commission held that “Beneficiaries cannot be selected each year to receive benefits in the form of dividends from the measured entity, for payment of their education, training or social upliftment projects, which are matters that should be catered for under corporate skills development, social investments or socio-economic development”. The second issue raised was in relation to the treatment of minors. The B-BBEE commission held that the use of “under-age children as beneficiaries will be regarded as circumvention of the B-BBEE Act as they have no capacity to exercise rights flowing from such ownership.” It, by implication, meant that a normal family trust (where children are included as beneficiaries in most instances) created as part of an estate plan could not be part of a B-BBEE structure. That was ludicrous, as generational wealth creation possibilities were destroyed. It was also noted in the guide that each participant must know in advance the portion of their entitlement to receive economic interest, and that during B-BBEE measurement, proof of payment must be produced. This requirement therefore disqualified the use of discretionary trusts. The guide also stated that there should be active participation from all black participants, irrespective of whether the shares in the measured entity are directly or indirectly held. This notion goes against the trust form, which requires the trustees to act on behalf of the beneficiaries, where beneficiaries do not play an active role in the management of the trust. It is clear that this guide caused a number of trusts, used in empowerment structures, to be questioned. A number of people even went as far as professing that trusts cannot and should not be used in empowerment structures, as they will always be open to attack. Some BEE verification agents started disqualifying trusts for B-BBEE Ownership.
Only on 18 May 2021 did the Minister of Trade, Industry and Competition publish a practice note, in terms of the B-BBEE Act, on the rules for entities such as B-BOS, ESOPs, trade unions, not-for-profit companies, co-operatives and trusts - collectively referred to as discretionary collective enterprises (DCEs) - for purposes of B-BBEE measurement and recognition. This practice note aims to address uncertainties regarding the use of such entities for B-BBEE purposes, especially caused by the guide issued in 2018 as mentioned above. This practice note was a change to the 2018 interpretation by the BEE commission, which was much needed to preserve a trust as an allowed mechanism to meaningfully transfer business ownership into black hands. It was confirmed that DCEs have benefited many black beneficiaries to access the economy and/or to enjoy economic empowerment.

Types of trusts allowed
Although the B-BBEE Codes allow the use of B-BOS and ESOPs, a conventional B-BBEE trust (such as a family trust) would also qualify as an ownership entity even if it does not house a B-BOS or ESOP structure, as long as it complies with the rules of the B-BBEE Codes. DCEs also allow “single purpose Collective Enterprises” such as educational, developmental and community upliftment type of B-BOS or trusts to be recognised in a chain of ownership. The Department of Trade and Industry ruled that DCEs making distributions in terms of skills development, training and education “to members of a defined class of natural persons does not in any way detract from the Economic Interest points claimable by or through these schemes”.

The next article will go into more detail of the practice note.