TAX ON PROVIDENT FUND CONTRIBUTIONS
I have contributed to my employer’s provident fund for the past 17 years. I paid tax on my contributions before they were paid into the provident fund.
My understanding is that, on retirement, I can take R500 000 as a tax-free lump sum. Can I also withdraw the total amount I have contributed tax-free, because I have already paid tax on the contributions?
Marius Cornelissen, a financial adviser at PSG Wealth in Menlyn in Pretoria, responds: Legislation does not allow an employee to claim a tax deduction for contributions in their own name paid into a provident fund; only the employer is allowed to claim a deduction for contributions to a provident fund.
However, contributions made by the employee that were not permitted as a tax deduction can at retirement be deducted from the value of the retirement benefit before the tax rates in the retirement fund lump-sum table are applied. Thereafter, if there have been no previous withdrawals from this provident fund or any other retirement fund, the tax-free portion will apply. As you correctly noted, the first R500 000 of the lump-sum retirement benefit is tax-free.
VOLUNTARY ANNUITY BETTER THAN RA?
I am 61 years old. Apart from contributing to the Government Employees’ Pension Fund and a retirement annuity (RA) fund, I have saved a portion of my after-tax salary in a bank account. I have paid tax (less the annual exemption) on the interest.
Is it correct that if I invest a large portion of the money I have saved in my bank account in an RA, I will be taxed on this money again when I receive a monthly annuity in retirement? The South African Revenue Service has carried forward, to 2016, R250 000 in excess RA contributions. I am contemplating retiring in a year or so, so it is unlikely that I will generate sufficient non-retirement-funding income to benefit from the tax deduction if I made further contributions to an RA.
From a tax perspective, would it be more beneficial for me to use the savings in the bank account, on which tax has already been paid, to buy a voluntary annuity and pay tax only on the investment portion and not be taxed again on the capital (if that is the correct tax situation)?
Name withheld on request
Ronald King, the head of technical support at PSG, responds: In terms of the Income Tax Act, any contributions made to your retirement fund that were not deducted from income tax can be deducted from your pension.
All non-deductible contributions are first used to increase the tax-free portion of the amount you choose to take as a cash lump sum. (The initial tax-free lump sum is R500 000.) Any non-deductible contributions not added to the initial lump sum can be used to draw a tax-free income from the annuity, up to the amount of the non-deductible contributions.
If you were to invest your savings in an RA, your non-deductible contributions would increase, but there would be no double taxation. The question, however, is whether this is the best course of action.
I would not recommend your alternative investment option at this stage. Although, with a voluntary annuity, only the interest portion is taxed, this is also the case with most other investments. However, with a voluntary (or life) annuity you buy a fixed interest rate for the term of the annuity, and, given that we are at the bottom of the interest rate cycle, your return will be limited.
Keeping your savings in a bank account is also not an option. The life expectancy of a retiree is nearly 90. This means that, at the age of 55, you need to invest these funds for 35 years. The nominal value of cash may not fluctuate, but inflation will strip your savings of any growth. Therefore, you need to invest in a portfolio with an exposure to equities of at least 60 percent. The value of your investment may fluctuate over the short term, but it is the only way to manage the risk that you will outlive your money.
There are advantages and disadvantages to an RA. An advantage is that the growth is tax-free, which, as a general rule of thumb, equates to an extra two percent in returns, depending on your tax rate. Any growth in the RA will be exempt from estate duty. A disadvantage is that you do not have access to the savings in the fund.
If the inability to access your savings is a problem, I would recommend a discretionary unit trust investment, which is flexible and liquid, and you can make monthly withdrawals from the investment. You will be taxed on the interest and the capital gains.
SHARIA-COMPLIANT INVESTMENTS
I am a 29-year-old Muslim woman. I want to take out a sharia-compliant retirement annuity (RA). I believe these funds have higher costs than non-sharia funds and that the returns are lower. What are the better sharia-compliant RAs on offer? When looking at costs, what percentage/amount is acceptable?
Name withheld on request
Ronald King, the head of technical support at PSG, responds: There are two aspects to investing in an RA. The first is to choose the correct RA, because this will affect the costs. I recommend that you choose an investment platform, because they have the cheapest and most flexible RAs. Most of the life assurance companies and investment houses have such platforms.
The second aspect is the choice of underlying funds, which will determine the returns. Most investment platforms provide you with a full range of funds, including sharia-compliant funds.
Sharia funds do cost significantly more than non-sharia funds, because more research is required to ensure that the assets in which the fund invests comply with the sharia rules.
The performance of sharia funds can differ considerably from non-sharia funds because of the restrictions on the assets in which sharia funds may invest; this makes it difficult to compare the performance of sharia and non-sharia funds. I would therefore recommend that you compare sharia funds with each other. When doing this, look at their total expense ratios and their average returns over the past three to five years with a specific focus on the fluctuations of their returns. The more stable the returns, even if a little lower, the safer the fund.
SELLING A HOUSE TO A FAMILY MEMBER
I live with my grandmother in her house and pay her rent. I am now in a position to afford a home of my own. My grandmother asked if I would be interested in buying her house, because she would never be able to maintain it on her own if I moved out.
1. Can my grandmother sell the house to me for a price below market value? Let’s say an estate agent values the house at R1 million and my grandmother sells the house to me for half that price, with an agreement that she will live in the house rent-free. Is she allowed to sell the house to me for much less than it is valued at because of the agreement that she can stay rent-free in the same house?
2. How can we avoid any unnecessary cost/fees? Effectively, the only thing that would change is that the name of the owner would change from my grandmother to me.
Rudi Abrahams
Melanie Coetzee, a director at law firm Smith Tabata Buchanan Boyes, responds: In order to avoid paying high donations tax, it is not advisable to effect the transfer by means of a gift. The most cost-effective way to transfer the property is in the form of an outright sale. In order for the sale to be concluded, the following process should be followed:
* Two valuations must be obtained from two independent estate agencies that operate in the area where the property is located. These valuations are important for the purpose of obtaining transfer duty clearance from the South African Revenue Service (SARS).
* The higher of the market valuations should be used as the selling price in the sale agreement (drafted by a conveyancer on the family’s behalf).
* Your family can agree on how the purchase price will be paid. If, for example, R500 000 is paid to your grandmother on transfer, the balance can be paid over a period of time, or provided for in a loan agreement signed with your grandmother. It is important that your grandmother’s will addresses how the loan agreement will be dealt with.
* The sale could be made subject to the registration of a lifelong right to live in the property in favour of your grandmother. This condition would be registered on the title deed of the property and therefore provides your grandmother with a secure right.
Costs cannot be avoided when property is transferred, and the following costs will be payable in relation to the market value:
* Transfer duty paid to SARS;
* Three or four months’ rates and utilities paid in advance to the local authority;
* Fees charged by the conveyancing attorney who draws up the sales agreement and helps with the transfer process; and
* Fees charged by the conveyancing attorney who assists with the registration of a mortgage bond, if a bond is used to finance the purchase price.
*Letter writers are sent the unabridged response that Personal Finance obtains on their behalf. However, published letters and responses are edited for length and clarity.