What do ‘tax free investments’ mean for me?

David Warneke, Director: Tax, BDO South Africa.

The introduction of ‘tax free investments’ with effect from 1 March 2015 has been widely welcomed as a way of encouraging South Africans to save.

Given the low annual (R30 000) and lifetime (R500 000) limits for contributions to these products, one may be forgiven for wondering what the point really is.

The potential savers for whom these thresholds would make a real difference are unlikely to be paying much tax. On the other hand, an interesting perspective is that there does not appear to be anything preventing a parent from donating R30 000 per annum per minor child for purposes of investment by the child. If a minor child receives an amount of income or a capital gain that resulted from a donation by a parent, the Income Tax Act generally taxes the income or capital gain in the hands of the parent. However, the wording of the ‘tax free investment’ provision appears to indicate that such income or capital gain will not be subject to tax in these circumstances.

Another interesting perspective is that if one’s alternatives are a tax free investment product and an offshore collective investment scheme in securities (unit trust), in terms of other provisions of the Income Tax Act an individual is not subject to tax on devaluation of the rand in relation to the currency of investment in an offshore unit trust in relation to the capital gain realised.

Assuming the investment is capital in nature, one determines the overall capital gain in the foreign currency before translating the foreign currency capital gain amount into rands. Therefore one is taxed on ‘real’ gains only. This is on the assumption that the offshore unit trust was acquired and disposed of in the same foreign currency.

Therefore in deciding between the two types of products, amongst other considerations a view will have to be taken as to whether the tax shelter provided in relation to the overall return on a tax free investment product is likely to beat the tax shelter in relation to the rand to foreign currency devaluation on an offshore unit trust over the holding period.