In March 2015 Treasury introduced a gift for future South African investors - the Tax Free Savings and Investment Account (TFSA). However, this gift came along with a handful of caveats, and unwrapping it the wrong way could result in some regrets; whereas adopting the right strategy can open many doors, leaving any investor in an advantageous position. The goal of this article is to identify certain pitfalls that even the most astute investor may fall in regarding TFSAs, and suggest some approaches that could put one on the path to abundance.

Before we delve into it, let’s be sure that we understand the core concepts of the TFSA:

• Individuals can contribute up to R33 000 per tax year into TFSAs.

• The lifetime cap is R500 000 per individual. At current limits, it would take one just over 15 years to reach the maximum.

• One can have multiple TFSAs, however the cumulative contributions must still adhere to the limits.

• Withdrawals that are made and reinvested are considered new contributions (this is very important).

• All income, dividends, or capital gains tax are exempt in a TFSA.

VIEW THIS AS A LONG TERM INVESTMENT

Many of the investment vehicles used to house a TFSA do not have an investment term to them, therefore one could withdraw funds at any point. However, given the legislative limits of contributions, the wisest way to view your TFSA is as a long term investment, so that you actually take full advantage of the tax-free nature of it. Withdrawing in the short term means that your returns are likely still minor and you may be taking portions that are still within your annual exclusions (currently R23 800 for interest and R40 000 for CGT) and hence wouldn’t be taxed anyway.

Scenario A:

Steve invests R33 000 into his TFSA every year into a great investment giving him a 12% return annually, however after three years he withdraws the full amount.

• Investment value after 3 years: R124 718

• Lifetime Contributions: R99 000

Steve’s growth has been R25 718 which is now tax-free. Although, Steve gets an annual CGT exclusion of R40 000 every year which his growth is well below, so Steve doesn’t need to be in a TFSA here. He has however left himself with R99 000 less that he can contribute to his TFSA in his lifetime.

Scenario B:

Julia invests R33 000 into her TFSA every year for three years in an investment giving lower returns than Steve, 10% per annum. After three years she ceases new contributions, but leaves her investment in for the next 20 years.

• Investment value after 23 years: R808 329

• Lifetime contributions: R99 000

Julia’s investment has grown by R709 329 which is all tax free. If she had been invested in another investment vehicle, even in the best case scenario she would have to pay R48 191, and in the worst R127 679.

Since this is a long-term investment and there is no regulation to asset allocation, it is advisable to expose your investment to majority growth assets (equity and property), and perhaps an opportunity to increase your offshore exposure, in order to maximise your return over the long-term.

GET YOUR CHILDREN INVOLVED

All natural people can have a TFSA, this includes minors. They are subject to the same limits as everyone else, however their extra years at hand mean that if a TFSA is started for them from a young age, they can be left rather wealthy before even working a day.

Scenario C:

Thandi opens a TFSA for her newborn son, Simphiwe. She contributes R33 000 per year on his behalf until his maximum of R500 000 is reached. Simphiwe receives a return of 10% per annum.

• Investment Value after 16 years: R1 274 175

• Lifetime contributions: R500 000

Simphiwe is now 16 years old and can enjoy R774 175 growth completely free of any tax, or he can leave the investment to grow and give himself an even better retirement gift at age 55 - an investment to the value of R52 425 647 (yes, you read that correctly), saving himself potentially up to R9 346 616 in CGT.

TFSAs are a useful tool in any South African’s financial tool box. The full value of a TFSA will be realised by those investors who are proactive, patient, and mindful of the legislative limits.

SIDE NOTES:

• Unused portions of the R33 000 per year DO NOT carry over to future years.

• If one exceeds the annual or lifetime limit, they are taxed 40% on the excess.

• TFSAs may have a nominated beneficiary and can therefore pay directly to a beneficiary on death. The funds will not be charged executor’s fees, but are liable for estate duty.

• Currently fund managers are only allowed to charge a fixed fee for investment; no performance based fees are allowed.

Victor Bucarizza CFP®

Victor is a certified financial advisor at GIB Financial Services