Investing, Retiring and the Budget

The challenge Gordhan faced in his 2012/13 Budget was how to narrow the budget deficit without cutting back on social expenditure and infrastructure investment. He essentially did so by raising taxes and the tax burden on both individuals and companies.

Tax and tax policy are important considerations in both investment strategy and retirement planning. At first glance the R9.5 billion "cut” in personal income tax is worth celebrating. However, the tax burden will effectively rise by R74.6 billion in the current tax year, aided by inflation, the imposition of new taxes and an increase in other taxes such as CGT (capital gains tax). You will, on average, contribute more to the South African Revenue Services (SARS) this year.

Investment and retirement planning received many mentions in the Budget speech and various new initiatives were announced. However, the speech was more ambitious than the actual provisions in the budget. Taxes were raised on saving and investing activities, with some measures thrown in to mitigate the increases.

The Dividend Tax, which will replace the 10% Secondary tax on Companies (STC) from 1 April 2012, was set at 15%. While there are certain exemptions from the tax – such as when paid to companies and retirement funds – it is taxable when received by individuals. For people dependent on dividend income, the effect of this tax will be to reduce their income by 6%... And that’s a tough blow when viewed against today’s rising inflation rate.

Capital Gains Tax (CGT) was raised from an effective rate of 10% to 13.3%. But the Finance Minister’s claim that the lifting of the CGT exclusion to R30, 000 (from R20, 000) will offset this increase rings hollow. The raising of exclusion thresholds (to R2 million on the disposal of a primary residence and R1.8 million on the sale of a business) offers little solace either.

CGT is effectively a wealth tax as there is no indexing to inflation, which has been creating nominal gains, boosting taxes but eroding value. Home buyers are taxed to the hilt too. Transfer duty on the purchase of property was unchanged, meaning it remains expensive to buy a house costing more than R600 000.

This was not a good Budget for the saver, but there are some proposals that might assist taxpayers in coming tax years. Provisioning for retirement will change in 2014 to a ceiling of 22.5% of income for taxpayers under 45, limited to R250 000 a year. For taxpayers over 45, the ceiling rises to 27.5% of taxable income with an annual limit of R300 000. There will be other changes to the rules regarding provident funds, retirement annuities and pension funds too. The allowances for interest earned did not change, which places people dependent on interest income under pressure due to the low interest rates and higher inflation.

The Minister also introduced a household savings incentive, which will be in place by April 2014. This will be a vehicle for the tax-free accumulation of discretionary savings and is intended to boost household savings other than for pension provisioning. The allowance will be R30 000 a year with a maximum contribution of R500 000. This savings mechanism will not be available for the tax year starting 1 March 2012.

The proposed allowance of R30 000 is derisory given the urgent need to boost aggregate savings levels. To make matters worse these tax-preferred savings and investment accounts will be considered alternatives to the current tax-free interest income caps!

On balance, this Budget targeted savings and wealth accumulation. While the rich will be able to absorb the burden fairly easily, the middle class will be hardest hit. This is because the thresholds have been set at levels that will further hamper the middle class in building up savings in an economy that is savings deficient.

We can illustrate this middle income "squeeze” by considering the budget announcements on healthcare provisioning. The 2012 Budget makes various allocations to NHI-linked planning and infrastructure expenditures without addressing where the funds will come from. A payroll tax (on both employer and employee), higher VAT rate, or surcharge on taxable income could be implemented in future tax years.

The most significant medical funding change is the tax treatment of medical scheme contributions. The current system of income tax deductions will be replaced by a medical tax credit system. From 1 March 2012 the principle member (taxpayer) can deduct R230 per month for himself and the first dependent, plus R154 per month for each additional beneficiary.

Net disposable household income is further crimped by the so-called "sin” taxes and hikes in fuel levies. There was a big push to hike the cost of cigarettes and alcohol – with an additional 52c per pack tax on 20 cigarettes, an 18c per litre hike in the tax on wine, R6 extra per 750ml spirits and 9c per can of beer. Gordhan also weighed in with a 1% tax on gambling, levied on casino operators.

The General Fuel Levy received a 20c per litre boost while the Road Accident Fund was upped by 8c. And of course we have to contend with the Gauteng freeway tolls which the Minister capped – for private road users – at just (sic) R550 per month.

Savings should be a key focus of household budgets. Governments are becoming increasingly cash strapped and many state benefits currently promised (especially in richer countries) will never materialise. This means individuals and households will have to take on more risk, especially regarding medical and retirement funding.

One of the biggest financial planning mistakes is to assume pension provisioning is adequate. By the time a shortfall is identified there is seldom enough time to remedy it. Inflation is a cancer that hampers wealth accumulation, and financial-market returns are under pressure. As a result, many retirees find they have under-provided for their so-called golden years. Another big mistake is to allow current expenditure to hamper adequate retirement provisioning. If this is the case, the current lifestyle is excessive.

It is recommended that everyone ensures their pension deductions are at the level that accesses their maximum taxable allowance. This is essential, as even this is not adequate to maintain your lifestyle after retirement. Further discretionary savings have to be made above what is being set aside for a pension. It is also recommended that full use is made of the household savings incentive when it becomes available. Hopefully, the annual threshold of R30 000 will be raised to a more meaningful level.

Increasing savings in the new tax year will prove more difficult as economic growth lags behind inflation. Administered prices (electricity, water and municipal rates for example) will again increase at levels way above inflation to pay for government infrastructure investment plans, and inflation will also remain relatively elevated in 2012.

Investment returns may also be subdued if systemic issues in Europe and Japan continue to hamper global economic growth. Increasing savings remains critical to reducing the risks associated with retirement provisioning.