Inheritance and insolvency


A testator may wish to provide in his Will for the situation where a beneficiary is insolvent at the time of inheritance so as to prevent the inheritance from being included in the insolvent estate of the beneficiary.
The aim of such a clause in a Will is to prevent the creditors of the insolvent estate of the beneficiary from deriving any benefit from the estate of the testator. Although the merit and value of such a clause is obvious, the wills drafter needs to exercise care with the wording.

What is included in an insolvent Estate?

Section 20 (2) of the Insolvency Act of 1936 ( “the Insolvency Act”) provides that the estate of an insolvent person shall include all property which he or she may acquire, or which may accrue during insolvency, subject to certain exceptions listed in Section 23.

What does our Courts say about “insolvency protection”?

In the case of Badenhorst v Bekker N.O. & Others 1994 (2) SA 155 (N), a beneficiary, who was married in community of property, inherited assets from her late father after the joint estate of her and her husband had been sequestrated. The father’ Will contained a clause which read as follows: “No rights and hopes of the beneficiaries under this Will or part thereof shall be attachable by any creditor or vest in the beneficiary’s trustee on insolvency” Notwithstanding this “insolvency protection clause”, the court dismissed the legal effect of the clause and held that the beneficiary’s inheritance formed part of her insolvent estate.
The effect of the court’s judgment is that a direction in a Will that a bequest shall not be liable to attachment at the instance of a beneficiary’s creditors, has no effect in law.
In the case of Vorster v Steyn1981 (2) 831 (OPD), a father bequeathed his entire estate to his son, subject to the provision that if at the time of his death, his son happened to be insolvent, the proceeds of his estate should be placed in a trust until the time of the son’s rehabilitation.
The court held that the inheritance could not be placed beyond the reach of the son’s creditors. The provision in the father’s Will was a naked prohibition (a nudum praeceptum) and the court accordingly interpreted the Will so that the particular clause, seeking to protect the son’s inheritance, did not exist.
The court further ruled that the only way to protect the inheritance from creditors was to completely deprive the insolvent beneficiary from all interest in the testator’s estate. Because the beneficiary was not completely deprived from the interest, the inheritance vested in the insolvent estate of the son.

Legal rule

It is a rule of succession law that when a testator bequeaths outright ownership of property to an heir, the testator cannot impose restrictions on the heir on how and when the heir may use his or her inheritance. Any limitation of usage of outright ownership that is imposed purely in the interest of the heir, does not bind the heir or his or her creditors and the limitation imposed is regarded as a nudum praeceptum.
The reason why the limitation cannot be imposed is because the beneficiary who receives outright ownership can insist on administering the property himself, without limitation. This principle equally applies to the beneficiary’s trustee in the case of his or her insolvency.

The Principle

If ownership of property is bequeathed in terms of a Will, this means that once the right of inheritance vests in a beneficiary, such inheritance will immediately form part of the beneficiary’s estate, irrespective of the beneficiary’s insolvency, unless provision has been made in the Will for an alternative beneficiary to receive the inheritance.
According to Meyerowitz, the eminent legal authority on estate law, the so-called “insolvency protection clause” has proved ineffective in law because the wills drafter omits to provide for a gift-over on breach of the condition i.e. the insolvency of the heir.
Meyerowitz says that “A prohibition or forfeiture is in itself ineffective, unless it becomes enforceable against the beneficiary penalized and it can only be enforced if the Will provides for a substitution of another beneficiary on the breach of the condition. If there is no substitution or gift-over, the prohibition or forfeiture is said to be nude and will have no effect”. Reference: Meyerowitz on Administration of Estates and Estate Duty, 2004 Edition, par 5.36

What is the alternative?

The inheritance bequeathed to a beneficiary can only be protected from his creditors if the testator gives a direction in his Will that in such circumstances (where a beneficiary becomes insolvent prior to receiving his benefit), the beneficiary forfeits his or her benefit in favour of some third person or a class of persons.
An example of an effective insolvency protection clause when drafting a Will would be “Any beneficiary who becomes insolvent prior to receiving his benefit shall immediately forfeit and lose his share of my Estate; and my Executor shall award the benefit to his descendants per stirpes , or failing them, then to my remaining beneficiaries”

Compiled by Wim Visser FPSA® (Fiduciary Practitioner of South Africa)