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03 November 2004 Angelo Coppola

Emile Wessels, head of product development at Sanlam Personal Portfolios (SP2), says that tax breaks and incentives to invest are fairly low in South Africa.

However, there are some tax efficient options, other than retirement savings vehicles, that investors can consider.

Tax is an important factor when selecting an investment. Investors should compare the after-tax returns of investment funds and vehicles to ensure their money has the best potential for real returns.

Tax can make a significant dent in the real returns earned by high marginal income tax payers. In addition, if these taxpayers want to invest conservatively their tax liability can increase, as the source of returns from low risk funds and cash is often taxable as interest income.

One of the methods in which investors can invest more tax efficiently is within a life wrapper, where tax is paid within a policy that is underwritten by a life assurance company. Although sometimes perceived as less flexible and more expensive than unit trusts, the key benefit of life assurance products is the ability to reduce tax liability.

Endowments and sinking funds, typically with a five year investment term, are tax effective life wrappers. These policies can provide an attractive combination of capital growth, tax savings and after tax returns.

The policies are considered tax efficient, as the taxable income within the policies is currently taxed at 30%. This translates into a tax saving for policyholders with marginal income tax rates exceeding 30%.

Policyholders who pay more than 7,5% in capital gains tax (CGT), can also save tax. Currently, the maximum CGT rate for individuals is 10% and for trusts is 20%.

As the life company recovers all taxes (income tax, CGT and RSC levies) within the policies and is responsible for making tax payments, all withdrawals are available tax free in policyholders’ hands, in terms of current legislation. Less income tax and CGT administration is thus required of policyholders at any stage.

To further minimise policyholders’ tax liability, Sanlam Personal Portfolios (SP2) tracks the net realised CGT gain or loss and carries forward realised losses each calendar year. CGT is recovered once a year, on or about the first business day after 31 December, or on full surrender.

For a shorter investment term, investors seeking a tax friendly, moderate risk investment can buy preference shares. These are shares that usually entitle the holder to dividends before holders of ordinary shares receive their dividends.

Most banks and some financial services companies provide preference shares for investors. Investors would be wise to check the stability of the issuer before selecting preference shares, as there are investment risks, such as the issuer going into liquidation.

It is often difficult to reconcile the need for stability in investments with a wish to pay less tax, however, some attempts have been made to provide relatively safe investments with lower tax liability.

Wanting a tax efficient investment and to escape the administrative hassle of keeping track of your tax liability is not enough reason to opt for a tax friendly product.

It is important that your adviser completes a detailed risk and needs analysis before you make your investment choice.

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