The regulations under the Income Tax Act were published on National Treasury’s website yesterday and Treasury said they will be published in the Government Gazette next week.
Tax-free savings accounts will come into being on March 1 as provided for by an amendment to the Income Tax Act, but many providers have not yet finalised their products, as the regulations stipulating what can be offered as underlying investments were only signed by Finance Minister Nhlanhla Nene yesterday.
The regulations under the Income Tax Act were published on National Treasury’s website yesterday and Treasury said they will be published in the Government Gazette next week.
The regulations state which financial services companies will be able to offer you underlying investments. These range from bank savings accounts to unit trusts and life assurance investment portfolios, and the final regulations include products from mutual and cooperative banks. Participation bonds will also be included in future, but only those that comply with requirements that have yet to be issued by the Financial Services Board.
The regulations take account of some issues raised by the financial services companies, but adhere to Treasury’s aim to ensure that investments in the savings accounts are simple and transparent. In line with this, the regulations state that fees must be reasonable and not based on performance, penalties for early withdrawal are limited, and no complex structured products or smoothed bonus policies will be allowed.
Your investments in a tax-free savings account will enjoy investment growth free of any income tax on the interest, dividends tax on the dividends or capital gains tax on the capital gains.
You will be able to make investments into the accounts of R30 000 a year (R2 500 a month), up to R500 000 over your lifetime.
Withdrawals can be taken at any time, but whatever you withdraw, you will not be able to replace. The accounts will therefore be most suitable for long-term savings.
As the regulations were released only yesterday, only a few product providers have been willing to share their savings account plans and say their products will be available by March 1.
Others say their tax-free savings accounts may be ready only in a month or two, and they could not provide details this week.
Providers will, however, be competing for your savings, and many have said their products will be competitively priced, which means you may score more than just no tax on your investment.
Most banks have yet to reveal their offerings, but are known to be looking for new depositors to meet their liquidity requirements. Investec Bank, for example, has lowered its traditional minimum investment amount from R100 000 to R30 000 to attract investors to use its tax-free savings account.
Investec is offering an attractive fixed interest rate of 7.15 percent to anyone who invests R30 000 on a one-year fixed deposit. The deposit can be reinvested after a year at the prevailing interest rate.
Most unit trust companies, index-tracking investment providers and investment platforms (linked investment service providers) are also preparing to offer their funds as underlying investments for the tax-free savings accounts, and indications are that competition among them for your business will be stiff.
Sygnia has set the bar, offering five index-tracking funds on its Alchemy investment platform through a tax-free savings account, with no administration fee, no platform fee and an annual management fee of only 0.4 percent a year. Advice fees are negotiable with your financial adviser.
A number of other investment platforms indicated that they will offer their investments through tax-free savings accounts at “competitive” fees, but while Sygnia and PSG plan to be ready on March 1, others such as Investec IMS may take up until May to launch its tax-free savings account.
Investec, PSG and Discovery Invest plan to offer access through the savings accounts to almost all the funds on their platforms and PSG is lowering its usual minimum lump sum of R20 000 to R6 000 for the account.
The tax-free savings account regulations do not permit underlying investments that charge performance fees, but investment platforms say they have alternative “flat-fee”classes for funds that typically charge performance fees.
These may the old so-called R classes, where fees were typically one percent, or newer classes. When you compare fees, check the charges on the fund together with the fee for the platform and any charges for switching funds.
Investment platforms bulk investments enabling them to offer funds with lower fees. Some platforms still receive rebates from unit trust companies that may or may not be used to reduce their platform fees. However, there is a move away from rebates to what is known as “clean classes”on platforms where the fees are transparent.
Unit trust companies appear not to be charging any platform or administration fee, but check the fees for the relevant fund class. Among the unit trust companies that were willing to disclose details of their tax-free accounts, Nedgroup Investments and Prudential said they are aiming to be ready for March 1, while others, such as Coronation and Allan Gray, said they probably wouldn’t have products on the shelves by March 1.
Some companies, such as Prudential, will offer some of their funds only through the tax-free savings accounts. Others, such as Stanlib, promise a comprehensive range, while Nedgroup Investments says it will offer its entire range, except one fund that charges a performance fee. Sanlam Investments will offer a “comprehensive” range (from as little as R200 a month) and all the Satrix indextracking funds (from R500 a month).
Life assurers also plan to compete, and their products are likely to have administration fees.
Sanlam Life plans to launch a tax-free investment with an administration fee of 1.45 percent, but the company is offering to discount this fee as low as 0.2 percent for group investments, with the fee discount based on the amount invested by the group in the tax-free accounts.
Kavir Ramjee, product actuary for Sanlam Personal Finance, says an investor group may be set up by a financial adviser for his or her clients, an employee for his or her employees or a group of friends or a family. Accounts, however, remain in the name of an individual. In terms of the regulations, you will not be able to invest directly in shares, or in some exchange traded products that are not registered as collective investment schemes.
The managing director of online passive investment platform etfSA, Mike Brown, said etfSA was still waiting to hear if the JSE will be able to offer exchange traded funds (ETFs) through a low-cost broker-dealer account that will be a tax-free savings account.
If this is not possible, 38 ETFs that are registered as collective investments will be available through tax-free savings accounts on platforms such as etfSA, or from financial services providers that are licensed to offer discretionary investments.
If you contribute R2 500 a month (R30 000 a year) to the savings account, it will take you 16 years and eight months to contribute the lifetime limit of R500 000.
You can withdraw your investment at any time, but withdrawals do not affect your annual or lifetime contributions. For example, if you have invested R500 000 over the years and you withdraw R50 000, your net investment in the account will be R450 000. But you will not be able to top up the account by paying in the R50 000 you withdrew.
You cannot convert an existing investment, for example, in a unit trust, into an investment within a tax-free savings account, or have an existing investment reclassified. You will have to cash in the investment and invest again, even if it is, for example, being invested through the account into the same unit trust fund. Cashing in an investment that is not yet within the tax-free savings account could incur a capital gain, but remember, you enjoy an exemption on capital gains of up to R30 000 a year. However, National Treasury is considering allowing low-income earners who have inappropriate life assurance savings products to convert them into tax-free savings accounts.
The underlying investments cannot include structured products and smoothed bonus portfolios in which some investment returns are withheld from you.
If the investment has no maturity date, you must be able to access your money within seven days of your requesting it. If the investment has a maturity date, it must be payable within 32 days of your request.
Investments with high penalties for early withdrawals are not allowed.
Product providers that offer fixed deposits can charge a penalty that is the higher of R300 or the value according to a formula that takes into account the period you have been invested, the investment amount, the years remaining until maturity and the interest rate that could have been earned had the investment been held to maturity. In the case of products that have a maturity date but where the returns are not linked to an interest rate, the maximum penalty is limited to R500, and it will gradually decrease to zero if the product is held for five years or more.
Underlying investments may not charge performance fees.
Underlying investments may not pay bonuses if you stay invested for a particular term.
If the underlying investment’s value is determined directly or indirectly from the value of shares, the investment may not invest more than 10 percent in a single share or commodity, and 80 percent of the shares must be listed on a stock exchange. This does not apply to collective investments, which must comply with diversification requirements in the Collective Investment Schemes Control Act.
Underlying investments may not include derivatives except to reduce potential loss;
You won’t be able to set up debit orders or stop orders, or use debit or credit cards linked to the accounts, or make ATM withdrawals from the tax-free savings accounts.
You won’t be able to invest through the account in a policy that includes life or disability assurance.
You won’t in the first year be able to transfer your tax-free savings from one provider to another. Treasury will, in consultation with product providers and the South African Revenue Service, develop regulations that will allow you to transfer your investment to another provider without this being regarded as a new investment.
Only individuals can open accounts. You cannot open an account in the name of a company or trust.
You can open an account in the name of any minor child, but withdrawals must be paid to that child. You can donate up to R100 000 a year free of donations tax, so this would cover a R30 000 contribution to the account for a child.
When you contribute to a tax-free savings account, you contribute money on which you have paid income tax, whereas the money you contribute to a retirement fund is tax-deductible, within limits.
This is what gives your retirement savings the edge over savings in a tax-free account, despite the fact that investments in both vehicles are free of dividends tax, income tax on interest and capital gains tax.
In a recent newsletter, Freddie Mwabi, an actuarial specialist at Simeka, a retirement fund consulting company in the Sanlam stable, says your retirement fund is a virtual tax haven and illustrates its advantages in two examples.
Mwabi’s one example is of a 40-year old who earns R10 000 a month and whose employer contributes R1 000 a month to a provident fund for 20 years escalating at salary inflation, assumed to be the inflation rate plus two percentage points.
If the money is invested in a fund that earns an annual return equal to the inflation rate of six percent plus five percentage points (a total return of 11 percent), the investment will be worth R1 468 000 after 20 years.
If the entire amount is taken as a lump sum at retirement, tax of R281 000 will be deducted, leaving the investor with R1 187 000.
In comparison, if the R1 000 was paid to the 40-year-old, he paid tax on the additional salary and then deposited the after-tax amount in a tax-free savings account, his savings after 20 years would be worth R1 075 000.
The difference in the amounts contributed is that the investor would have had R567 000 paid into the retirement fund and only R340 000 to the tax-free savings account.
This makes a R220 000 difference in the returns earned on the retirement fund compared with the tax-free savings account.
Mwabi shows that the final after-tax amount is 10 percent higher in the retirement fund. The introduction of the tax-free savings account shows how tax-efficient retirement funds are, he says.
However, for investors who make use of their full retirement fund tax deductions or who want the access to their savings that the taxfree account provides, the tax-free account offers a much better deal than any other discretionary investment provides, and Mwabi uses a discretionary collective investment to illustrate this fact.
In a second table, Mwabi uses as an example a man who earns R100 000 a month, which means he pays tax at the highest marginal tax rate (40 percent). The example illustrates that for higher-earners, the savings are greater.
In the exercise, Mwabi assumed the same cost structure for all three types of investment. He says the differences are bigger if the actual cost structures of each investment type are taken into account.
Contributions to tax-free savings accounts are limited to R30 000 a year and R500 000 in total during your life.
Regulations under the Income Tax Act prevent financial services companies from accepting more than these limits both annually and over your lifetime.
However, product providers won’t know if you contribute to more than one account held by different companies. To stop you contributing more than these amounts, the Income Tax Act provides for a stiff penalty tax of 40 percent on any amount you put into the accounts that takes you above the annual or lifetime contribution limit. The penalty applies in the tax year in which you make the excess contribution. So if you invest R20 000 in an account with one provider and R20 000 in an account with another provider, you will have contributed R10 000 more than the allowable limits.
Your contributions will be reported to the South African Revenue Service, which will levy the 40 percent tax on the R10 000 excess contribution.