Picture: 123RF/RAW PIXEL
Picture: 123RF/RAW PIXEL

Recent statements by the commissioner of the Broad-Based Black Economic Empowerment (B-BBEE) Commission, Zodwa Ntuli, have resulted in much media attention and commentary on the use of broad-based trusts in B-BBEE ownership structures.

The commissioner stated that the “vast majority” of transactions involving such trusts are not compliant with the law and do not constitute genuine and effective black ownership. She also stated that the beneficiaries of a broad-based trust must be clearly identifiable and able to exercise voting rights; must receive the same economic benefits as other shareholders; and ultimately become the unencumbered owners of the shares in which they are invested.

The codes of good practice issued in terms of the B-BBEE Act sets out the basis on which the B-BBEE ownership of a firm is measured. The codes clearly permit the use of broad-based trusts. The use of such trusts by companies is, in fact, incentivised in that an additional three B-BBEE ownership points may be scored if a broad-based trust — or an employee share ownership programme (ESOP) — has a 3% shareholding in the company. The codes, however, set out specific requirements that must all be complied with if the broad-based trust is to contribute B-BBEE ownership points to a company. Failure to comply with all these requirements means the trust cannot contribute B-BBEE ownership points.

This may explain the commission’s argument that beneficiaries of broad-based trusts should be treated in the same manner as ordinary shareholders in a company

The first codes were issued in February 2007. Requirements for ESOPs then differed from those for broad-based trusts in that ESOPs were required to define the participating employees (either by name or the use of a defined class of natural person) and the proportion of their claim to receive distributions (either by way of fixed percentages or by use of the formula). Most importantly, the ESOP trustees were not allowed to have any discretion regarding the definition of the participants and their claims to receive distributions.

These requirements for ESOPs did not apply to broad-based trusts and, as a result, it became common for broad-based trusts to be structured as discretionary trusts in which the trustees would, at their discretion, select beneficiaries and decide on the amounts to be paid to the beneficiaries (usually on an annual basis). Many broad-based trusts were structured to qualify as public benefit organisations (PBOs) in terms of section 30 of Income Tax Act (which allows tax exemptions and other tax benefits for the trust) and to provide funding for various welfare, community, humanitarian, healthcare, educational, and development activities for the benefit of black people.

Broad-based trusts vs ESOPs

According to a report issued by Intellidex in June 2017, R51.6bn  in value has been created specifically for charitable recipients through B-BBEE transactions since 2002. A broad-based trust may benefit a broader base of black beneficiaries and this is arguably more in line with the promotion of the objectives of the B-BBEE Act than B-BBEE transactions involving only a few black individuals.

However, with effect from May 1 2015, the codes were amended to require broad-based trusts to comply with the above-mentioned requirements for ESOPs. Notice of these changes had been given when the amendments to the 2007 codes were issued under the B-BBEE Act on October 11 2013. Trustees of broad-based trusts could no longer select beneficiaries or decide the amount to be paid to each beneficiary. It may also be argued that trustees could no longer decide how beneficiaries use the funds received by them from the trust.

Employee participants in ESOPs and ordinary shareholders in a company may use the funds received by them from the ESOP or the company as they deem fit. This may explain the commission’s argument that beneficiaries of broad-based trusts should be treated in the same manner as ordinary shareholders in a company. Compliance with the requirements for PBOs in terms of the Income Tax Act may also be more difficult, if not impossible, as a result of the 2015 changes. Failure to comply with the 2015 requirements means that a company can no longer score B-BBEE ownership points based on the trust’s shareholding.

The commissioner’s somewhat sweeping statement that the “vast majority” of broad-based trusts are “not compliant” may well be based on their non-compliance with the 2015 requirements. It would be helpful if the commissioner would give more details to support her statement. In practice, many pre-existing broad-based trusts were not updated and some broad-based trusts formed after May 1 2015 do not comply with the 2015 changes.

‘Moving the goal posts’

Several commentators have accused the B-BBEE commission of “moving the goal posts” or a “dramatic policy shift”. Such criticism is unfair insofar as it relates to a belated focus on non-compliance by broad-based trusts with the 2015 changes to the codes. These requirements have been in force for four years now and companies with non-compliant trusts in their ownership structures have had ample opportunity to rectify the position. The commission is duty-bound to monitor and ensure compliance with the codes as amended from time to time.

The commissioner’s statements are, accordingly, questionable. It is the trust (represented by the trustees in their fiduciary capacities) that is the shareholder in the relevant company not the beneficiaries

The commissioner, however, also advised that for a broad-based trust to contribute B-BBEE ownership points, the beneficiaries must exercise voting rights, receive the same economic benefits as other shareholders and ultimately become unencumbered owners of the shares in which they are invested. These statements are more contentious for the following reasons.

The codes clearly permit the use of trusts in B-BBEE ownership structures. The legal nature of a trust under SA law is that the assets of the trust are owned by the trustees (in a fiduciary and not personal capacity) and not the beneficiaries.

The trustees (and not the beneficiaries) are accordingly entitled to exercise voting rights attaching to shares owned by the trust. Dividends and other distributions received from shares held by the trust accrue firstly to the trustees (in their fiduciary capacities) and not the beneficiaries although the beneficiaries must (to comply with the 2015 changes to the codes) have vested rights to receive distributions from the trust; the codes do not require beneficiaries of broad-based trusts to exercise the voting rights of shares owned by the trusts.

In this regard it is instructive that the codes require that the participating employees in an ESOP “manage the scheme at a level similar to the management role of shareholders in a company” and that participating employees must appoint at least 50% of the trustees, Significantly, these requirements do not apply to broad-based trusts that are required to have an independent chair, 50% independent trustees, 50% black trustees, and 25% black female trustees. This should be interpreted as a deliberate policy decision on the part of the minister of trade and industry when he amended the codes in 2015.

The commissioner’s statements are, accordingly, questionable. It is the trust (represented by the trustees in their fiduciary capacities) that is the shareholder in the relevant company not the beneficiaries. Furthermore the codes do not require that the beneficiaries of a broad-based trust become the “unencumbered owners of the shares” owned by the trust. The codes simply require that, on winding-up or termination of the trust, all “accumulated economic interest” be transferred to the beneficiaries or an entity with similar objectives.

The commission (like business and advisers) is bound by the existing wording of the codes. The commission’s interpretation of the codes is not automatically legally binding and only the minster of trade and industry is empowered to amend the codes.

It is important that the unfortunate uncertainty caused by the recent debate about broad-based trusts is resolved as quickly as possible. B-BBEE is a very important and complex issue for both foreign and local investors and, if it is to attract and promote investment in our economy, it is incumbent on the government to ensure that the legal framework set out in the codes is clear, unambiguous and commercially reasonable.

• Steyn is a director at Werksmans Attorneys.