Expats read this: A simple way to reduce your SA income tax liability

Jonty Sacks, Partner at Jaltech Fund Managers

South African taxpayers who are working abroad will soon feel the full might of the South African Revenue Service (SARS) following changes to the South African income tax legislation. The recent amendments will result in many of those working offshore having to pay income tax on offshore salary earnings above R1.25 million per year.

Expats are now under time pressure to take steps to reduce their tax liabilities in South Africa for the 2020/21 tax year. One ‘quick and easy’ fix is to invest in an approved Section 12J investment to reduce your total South African income tax liability.

Taxpayers who invest in an approved Section 12J fund can enjoy a 100% tax benefit in the tax year in which the investment is made, provided they remain invested for a minimum period of five years. “Section 12J investments are an effective option used by a number of our investors who are working abroad,” says Jonty Sacks, one of the partners at Jaltech Fund Managers. He adds that the difficulty most expats face is in selecting an investment that will generate meaningful returns in addition to the tax benefit.

Sacks has undertaken a comprehensive review of Section 12J funds to identify factors that constrain returns in this investment category. “We have found that the poor return performance of certain Section 12J funds is directly attributable to three factors, namely cash drag, high performance fees and the poor performance of underlying investments,” he says.

There has been some confusion around the performance fees published in the marketing material of section 12J funds. The fee commonly referred to as a Net Investment Performance Fee, is considered excessive due to the fund manager being compensated for performance that has nothing to do with the fund management function.

Cash drag is an important concept in the Section 12J investment universe and refers to a failure by the fund to invest historic investors’ capital timeously. Investors in these funds end up earning interest on their capital instead of the meaningful growth that should have accrued from the intended underlying investments. “You should make sure that the manager of your preferred Section 12J fund is able to invest capital under management within a reasonable time,” says Sacks.

The returns generated by the underlying investments in a Section 12J fund will vary from one fund type to the next and are subject to the usual vagaries of the economy. Returns can suffer due to poor economic growth or any number of unforeseen events. COVID-19, which afflicted the globe through much of 2020 and the first quarter of 2021, has undoubtedly affected the performance of many Section 12J funds, thereby eroding investors’ returns.

Jaltech Fund Managers is optimistic about the return prospects from certain sectors of the economy. Investors who prefer high growth might consider Aurik Capital, which has a pipeline of investible businesses courtesy of Aurik Business Accelerator, a business founded by radio personality and author Pavlo Phitidis. Those who prefer asset-backed investments could invest in the Infinity Anchor Fund which has topped its class in 2019 and 2020 by investing into a portfolio of asset-backed businesses that earn rental income from the leasing of movable assets.

The Infinity Anchor Fund Stable is a second option that offers asset-backed returns with the additional benefit of guaranteed income and guaranteed capital upon exit. And those who prefer ‘old school’ brick and mortar investments might choose Zimbali Capital, which generates returns based on high-quality property hospitality assets across South Africa, managed by Zimbali Asset Managers.

“Expats who are considering investing in this sector to reduce their income tax liability should conduct due diligence to ensure that the aforementioned risk factors are not present in their preferred section 12J fund and that their selection is in line with their return and risk objectives,” concludes Sacks.

For expats who are looking to understand more about Section 12J, Jaltech will be hosting two expat tax webinars during February 2021.