This article was first published in the fourth-quarter 2012 edition of Personal Finance magazine.
It is the time of year when we consider a good spring-clean of different areas of our lives. Our share portfolio should also enjoy some tender loving care at this time. Have a good look at the accumulation of unbundling and distributions that clutter the scene and distract attention from the big investment issues. However, it is not only spring-cleaning that occupies our attention now, but also tax.
Taxation is a matter that, with good reason, occupies the minds of all investors: personal income tax, capital gains tax (CGT) and, more recently, dividend withholding tax (DWT).
Most investors are keenly aware of the tax implications on their investments. As important as taxation is, one should avoid allowing the tax tail to wag the dog. A good investment decision should be made on the merits of the case, taking into account all factors and not just the tax implications. All factors include your investment objectives, risk profile, time horizons, income requirements, personal circumstances and the like.
CGT celebrated its 11th birthday on October 1 this year. It was introduced to broaden the tax base and to bring South Africa into line with most other countries. Judging by the amount it brings into the exchequer annually, it is here to stay. In the past
five years, according to 2011 Tax Statistics published jointly by National Treasury and the South African Revenue Service, individuals coughed up R13.1 billion and companies R22.9 billion for an impressive tax receipt of R36.1 billion.
The current maximum rate for individuals is 13.3 percent; it is 18.6 percent for companies and 26.7 percent for trusts, although many trusts may well distribute the capital gain to the beneficiaries.
The stock market has been very kind to South African investors since the implementation of CGT, and share prices have risen considerably. Consequently, many think twice now before making changes to share portfolios because of the potential CGT liabilities. This often means that switching between companies in sectors that are likely to start slowing and into ones that are earmarked for growth are not implemented due to the fear of paying tax.
It is really an extraordinary position and seems devoid of common sense. CGT is the cheapest tax for an individual. If you have to pay tax it must mean that you have made money – what could be a more satisfactory state of affairs? Some of the ludicrous discussions I have participated in almost imply that the investor would rather the share price fell so as to avoid paying any tax.
Clever investors will make use of all the avenues open to them to limit the amount of tax they pay but not suffer from “investor paralysis” in fear of the consequences of taxation. One tactic that can be employed is to sell under-performing shares that have CGT losses as well as some shares with profits, offsetting the one against the other. Some find it very difficult to sell at a loss, but they forget that losses tend to get bigger!
The other sensible thing to do is to try to ensure that you use the CGT abatement you get each year – at the moment this is R30 000 per individual. This is a “use-it-or-lose-it” amount, which means it is available annually and does not roll over into successive tax years. Losses, on the other hand, can be carried forward into successive tax years. I am not suggesting that investors make changes to their portfolio for the sake of it, but when changes are required, be aware of the CGT position but not terrified by it.
The DWT made its appearance this April, having replaced the old secondary tax on companies. Investors are so much more aware of a tax when they see the actual figure reflected on their monthly statement – hardly astonishing I suppose – but it leads to plenty of negative comments. Fortunately, most realise that it is not a new tax but a change of an old one. Nevertheless, it is not popular with shareholders.
I strongly recommend that investors review their portfolio regularly based on the primary consideration of the investment case for the proposition. Having done this, it is very natural to consider other implications such as tax, but in the end the decision should be based on what is right for the investor and the future performance of the share portfolio.
Looking forward to the next issue, we will provide the traditional “New Year stock picks” and examine the fruits of our past efforts.