Tax Free Investments (TFIs) were introduced as an incentive to encourage household savings. This incentive became available from 1 March 2015.
Your money can grow faster in a tax-free savings account compared to a regular savings account because you don’t pay tax on the investment return.
A tax-free savings account is therefore an effective way to save for your goals, because any interest, dividends or capital gains from your tax-free savings account will be free of tax. Saving in a tax-free savings account gives you flexibility as you don’t have to commit to any future contributions. You can withdraw from your investment at any time. Withdrawing funds, however, may prevent you from reaching your savings goals, and will use up part of your lifetime limit for tax-free savings.
The effect of compound interest, or earning investment return on investment return, is increased in a tax-free savings account due to the tax relief on the investment return. The longer you invest the more benefit you will get.
One good reason for investing in a TFI is to supplement retirement savings, as a TFI provides not only tax free growth but also tax-free withdrawals. Few South Africans retire with enough savings to support themselves in retirement. TFIs can also be useful in increasing the taxpayer’s total offshore or specific asset class exposure, based on their investment goals. Individuals can also gain access to the stock market through TFIs in selected Exchange Traded Funds (ETFs).
A person may open a TFI on behalf of their minor child but remember the annual donations tax threshold of R100,000 per person applies.
The tax free investments may only be provided by a licensed bank, long-term insurers, a manager of registered collective schemes (with certain exceptions), the National Government, a mutual bank a co-operative bank, the South African Postbank, and administrative financial services provider and a person authorised by a licensed exchange to perform one or more securities services in terms of the exchange rules. Service providers must be designated by the Minister in the Gazette. As per the current Regulation, only the above are designated.
You don’t have to pay income tax, dividends tax or capital gains tax on the returns from these investments and a person is limited to an annual limit as well as a lifetime.
The current annual limit is R36 000 in 2021.
Note that any portion of unused annual limit is forfeited (it is not carried forward to the subsequent year of assessment).
There will be a penalty of 40% on the excess amount above R36 000. This penalty is added to the normal tax payable on the notice of assessment.
Any person (including minor children) can have more than one tax free investment, however, the annual limitation is an aggregation per every year of assessment.
There is a life time limit of R500 000 per person.
Note that when returns on investment are added to the capital contributed, the balance may exceed both the annual and/or lifetime limit. The capitalisation of these returns within the account does not affect the annual or lifetime limit.
Example: if a person invested R36 000 for the 2021 year of assessment and the return on investment is interest of R5 000, which is capitalised, the total amount in the account will be R41 000. The interest amount of R5000 is not regarded as a contribution.
This must be compared to where a person withdraws the return on investment (as per above example R5000) and invests that amount in the same tax free investment account, that amount is a new contribution and impacts on both the annual and lifetime limits. The same principle will apply if any portion of the capital is withdrawn and reinvested in the same tax free investment account.
Transfers between tax free investments accounts became effective from 1 March 2018.
Parents can invest on behalf of their minor child. The minor child will use his/her own annual or lifetime limits.
Tax free investment accounts cannot be used as transactional accounts.
Debit or stop orders and ATM transactions will not be possible from these accounts.
The following accounts qualify as TFIs:
Unit trusts (collective investment schemes)
Retail savings bonds
Certain endowment policies issued by long-term insurers
Linked investment products
Exchange traded funds (ETFs) that are classified as collective investment schemes.
You will need to:
Enquire from a service provider about investing in a tax free investment.
Service providers will provide SARS, twice a year, with the following info:
Total contributions per tax year;
Total amounts withdrawn per tax year;
Total amounts transferred per tax year;
Total returns on investment for example: interest, dividends, capital losses and capital gains.
The service providers will provide these taxpayers with this information by issuing an IT3(s) Tax Free Investment certificate annually.
Author Craig Tonkin