financial planning

I realise that this may be outside the realm of interest for the non-South-African taxpayer – but I think that most governments have some concern around their ageing populations, so they’ll have some kind of tax incentive available for retirement savings (and therefore, some of what’s in here might be applicable).

Here’s the thing: one of the best returns you can get for your money is a tax-saving.

A Tax-Inefficient Scenario

  1. I’m an ordinary income-earning person under the age of 55.
  2. I earn a package of R400,000 per year.
  3. From that, I pay for my medical aid each month – but other than that, I don’t really do much else.
  4. For the 2014 tax year, I’d be paying around R78,600 in tax.
  5. So I’d have R321,400 of money that would land in my bank account in monthly instalments of R27,000.
  6. From that, perhaps I’d like to start saving – so I try to put away R5,000 each month into an investment portfolio of my choice.

I chose R5,000 quite specifically – because as it stands today, SARS lets you claim an income tax deduction of up to 15% of your non-retirement funding income if you place it into a Retirement Annuity Fund investment.

And don’t be put off by “non-retirement funding income” – all that SARS is saying is that you can’t contribute both to a pension fund* and to a retirement annuity fund and then claim full deductions for both. If you’re already taking advantage of a pension-fund contribution – then you’re limited to 15% of whatever income is left over after than contribution is taken off.
*There is already a separate tax incentive for pensions. Retirement Annuities are for those that might want to save more.

What that means…

A Tax-Efficient Scenario

If you place yourself in exactly the same scenario (earning R400,000 and trying to save R5,000 per month), and instead of placing that R5,000 in unit trusts yourself, you place it into an Retirement Annuity Fund (RA), your tax bill drops from R78,600 down to R59,500.

That’s a tax saving of R19,100, or about R1,600 per month.

But the important thing is that it would add directly to your return. In other words, just by shifting your investment strategy with your R5,000 monthly saving, you can earn an instant return of 32%*.
*1,600 ÷ 5,000 = 32%

That kind of once-off return is pretty hard to catch-up with, once you get going. Someone has already done the math (here’s a link to the paper), but basically, this is a graph of the extra return your discretionary investment would have to make each year in order to catch up with a fairly low-yielding (5% per annum) Retirement Annuity Fund:


In my R400,000 per year case, my discretionary investment would have to outperform my RA investment by 3% every year for as long as I have the RA. That’s, well, quite an ask.

The Big Forthcoming Change

With effect from the beginning of March 2015, the 15% limit is increasing to 27.5%. Although, because the tax man always taketh away with the other hand, there is going to be an overall monetary contribution limit of R350,000 per annum – which means that anyone that was taking advantage of the 15% contribution on high incomes (circa R2 million annually and upwards) is going to find themselves taking smaller deductions for their RAF contributions.

Other Good News

Retirement Annuity Funds, because of their tax advantage status, have traditionally attracted high-fee-charging fund managers. Which actually makes a lot of sense – if there is a 32% instant return, you wouldn’t necessarily quibble if 50% of that was taken by a fund manager, right?

I mean, if someone said to you “you can earn a 16% instant return just by investing in our RA!” that sounds like a good deal. Maybe not as good as 32% – but rationally, you’d still do it.

But here’s the good news: there are now passive index-tracking RA funds (how I love ETFs) charging fees that are capped at figures like 1.35% per annum. After some research, here’s the one I would use: the etfSA Wealth Enhancer RA Fund.

My only real complaint when it comes to RA Funds is that their investment allocations are governed by Regulation 28 in the Pension Funds Act – meaning that no Retirement Annuity Fund can be pure equity (how annoying).

But that’s really just semantics. Most small investors would choose a balanced fund anyway – so why not choose one that gives you a tax saving?

A Final Observation

For those that are going to come back at me with “but you can’t touch your RAF fund until you’re 55” – I’m just not convinced that’s such a bad thing… I mean – isn’t the point to have savings for your retirement?

So really, I guess I’m saying that if the object behind your savings process is to buy a house or pay for December’s holiday, then you do that out of post-tax income.

But if you want to save for retirement, do it pre-tax.