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Personal investing

Investing with tax benefits in mind during uncertain times

Amid the extreme uncertainty brought on by COVID-19 and the ongoing lockdown restrictions, investors are tasked with looking beyond the current crisis and making decisions for their future – a real challenge in an environment when everything seems so unsettled. Yet, it is true that the decisions made now will impact our financial positions long after the crisis has passed.

Last year had a devastating impact on lives and livelihoods, and also drove home the importance of trying to build both short-term and long-term savings. If you are fortunate enough to be sitting on some spare cash, perhaps as a result of lockdown restrictions, it is worthwhile considering taking advantage of the tax benefits associated with popular product choices such as Tax-Free Investments (TFIs) and Retirement Annuities (RAs) before the end of February – the end of the tax year.

Understanding the options

The tax benefits of both RAs and TFIs are structured differently, and the product rules are quite distinct. There may be place for both products in your portfolio, depending on your needs and objectives.

The ideal investment vehicle to save towards a comfortable retirement remains the RA. The government allows investors a tax deduction on money invested of up to an annual amount of 27.5% of the greater of taxable income or remuneration (capped at R350 000 annually). Investing more than this still allows you to get the tax benefit in the future. You pay no tax on the interest and dividends earned or capital gains realised while invested.

But the product is restrictive given that you can only access your money once you retire (after age 55). In addition, only one-third of the amount can be taken as a cash lump sum. The rest must be used to purchase an income-bearing product in retirement, such as a living or guaranteed life annuity.

A TFI, on the other hand, is a great way to boost savings and the true benefit is felt over the long term as tax-free returns compound. Although after-tax money is used to invest in a TFI, no tax is paid on the interest and dividends earned, or capital gains realised on withdrawals. These products are not as restrictive as retirement products. There are however tax implications for overcontributing to a TFI and money that is withdrawn cannot be replaced.

Making money work harder with compound interest

The incentives on both TFIs and RAs can be very attractive, particularly with compound interest at play.

Graph 1 shows how much an initial investment of R36 000 (the annual TFI contribution limit) could grow over 20 years. The total growth is shown in nominal terms (i.e. includes inflation) and we have assumed an average annual return of 10%.

Potential growth of a tax-free investment - Allan Gray

At the end of the day, if your goal is to save, then using a TFI or RA to benefit from long-term tax savings is key, even during uncertain times.

Maximising your tax-free contributions for the current tax year

The current tax year ends on Sunday, 28 February 2021. If you would like to top up your existing Allan Gray Tax-Free Investment or Retirement Annuity for the 2020/2021 tax year, please ensure your instruction reaches us by 14:00 on Thursday, 25 February 2021.

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