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Tax Efficient Investments in South Africa - How to be tax efficient

Finding tax efficient investments has become increasingly important as the South African Revenue Services (SARS) makes changes to the regulations around tax deductions.

The marginal rate of tax of 45% was first introduced in 2017 and was the highest marginal rate of tax for South Africa since 1999. This rate is maintained in the 2020 budget.

Capital gains tax is now at 18% for individuals and 36% for trusts while dividend withholding tax is at a rate of 20%.

Income Tax Brackets 2019 South Africa

SARS has introduced several changes ahead of the 2019 tax season. However, one of the most significant changes is that tax payers earning below R500 000.00 per annum will no longer be required to submit tax returns as opposed to the previous R350 000.00 threshold.

However, it’s important to know that there are certain criteria that taxpayers must meet in order to qualify:

  • Their total employment income per year cannot exceed R500 000.00
  • They do not receive income from more than one employer for the entire tax year
  • They do not have any other form of income such as rental income, car allowance, taxable interest etc
  • They do not have any other tax-related deductions to claim such as retirement annuity contributions, travel expenses or medical expenses

These changes are sure to have an impact on the tax burdens faced by South Africa citizens. Therefore, including tax efficiency strategies as part of their financial planning has become even more important than before.

Tax Efficient Investments South Africa

Retirement Annuities

Retirement annuities (RA’s) are structured in such a way to offer tax saving opportunities for any South African who makes use of one and is therefore a popular method of being tax efficient.

Anyone who invests in an RA is entitled to deduct up to 27.5% per year of the higher of taxable income from their contributions towards an approved fund. This amount is capped at R350 000 per annum.

Therefore, an RA member is able to claim up to 45% of their contributions made within one tax year.

Furthermore, investors are able to generate returns on the “subsidised” contributions from SARS as well as on their untaxed returns.

From the age of 55, members of RA’s will be eligible to receive up to R500 000 tax free on any lump sum they receive.

Although income received from a compulsory RA will be taxed as income, SARS offers additional tax rebates for individuals over the age of 65.

The current tax threshold for individuals aged 65 and older is R10 192.

Since the introduction of Section C of the Income Tax Act, compulsory members of RA’s and pension funds can use any contributions made that previously did not qualify as tax deductions to reduce their taxable income from the relevant fund or annuity.

In addition, deductible contributions made to an RA are also exempt from estate duty. Which means that any amount saved during the investor’s lifetime will not be taxed after the investor is deceased.

Endowments

Funds invested in endowments are placed into the individual policyholder’s fund (IPF) which has a capital gains tax inclusion rate of 40% and normal tax rate of 30%.

Therefore, investors in an IPF are effectively taxed at a rate of 12% compared to a rate of up to 18% when invested as private individuals.

Furthermore, the higher an individual’s tax rate is above the 30% mark, the more they may benefit in an endowment from a tax point of view.

Investors are not subject to an additional form of capital gains tax when they withdraw from an endowment, as long as they are the original beneficial owner.

Lastly, executor fees do not apply to endowments when nominated beneficiaries are paid out.

Tax Free Investments

A tax-free investment (TFI) allows an investor to contribute a total of R33 000 per year, with a maximum of R500 000 in a lifetime.

Although contributions to a TFI are not tax deductible, the returns on such an investment are tax-free.

Capital gains tax, income tax and dividend withholding tax are applicable to TFIs. Tax efficiency is improved when combining an RA with a TFI in South Africa.

This is because investors who invest in both are able to access their TFI without being taxed before the age of retirement, allowing them to continue contributing to their RA until the age of 65 years.

Accessing capital invested in an RA before the age of 65 will result in such amounts being taxed.

Furthermore, an individual can donate up to the amount of R100 000 per tax year, without being subject to donations tax. This applies to donations between spouses as well as from parent to child.

Unit Trusts

Unit trusts can be considered tax efficient investments because of their cost structures, liquidity and governance.

Returns on unit trusts can be subject to income tax, capital gains tax or dividend withholding tax, depending on the investors underlying investments.

Currently, all tax payers under the age of 65 are entitled to an interest exemption of R23 800 per tax year and R34 500 for those older than 65 years of age.

Therefore, investors can make use of this exemption by investing a portion of their unit trust into interest bearing funds.

Furthermore, unit trust investors are allowed to use the annual capital gains tax exclusion of R40 000 while still alive and R300 000 after death. Therefore, investors can make annual withdrawals free from capital gains tax, if the gain is less than R40 000.

Living Annuities

A living annuity is an income purchased at retirement, where the source of the funds originates from a retirement fund only.

Investors are not able to use voluntary funds to buy a living annuity.

Income earned from a living annuity is subject to income tax, however, annuitants can benefit from certain favourable tax treatment if they are older than 65.

Furthermore, annuitants are now able to use retirement fund contributions to reduce tax payable from the annuity, which were previously disallowed.

Lastly, there are no executor’s fees when a beneficiary is nominated on a living annuity.

Life Policies

Generally speaking, when an investor passes away, there are often many liabilities left behind which must be settled.

There may be many assets in the deceased’s estates, however many of these may be immovable and therefore are not able to provide the capital necessary to pay capital gains tax, estate duty, executor’s fees, cash bequests, income tax or outstanding loans.

To avoid having to sell assets in order to settle liabilities, an investor can take out a life policy which is payable to the estate.

When the policy pays out, it’s exempt from capital gains tax. However, it becomes an asset after death and will be subject to estate duty and executor’s fees.

This is an important thing to remember when allocating the amount required from the policy to settle liabilities.

Section 12J Investments

This investment was introduced to encourage South African tax payers to invest in the local economy by allowing a tax deduction on the amount invested.

This means that investors are allowed to claim up to 100% of their PAYE or reduce their provisional tax liability or capital gains tax to an amount of zero.

Olemera Financial Advisors – Financial Planning in Johannesburg

Including tax efficient investments as part of your overall financial plan is crucial given the current economic environment in South Africa.

As part of our services, we offer financial advice which focuses on your individual financial needs and goals as well as the most efficient way to achieve them.

For more information about our financial services, please feel free to contact us.
 

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