The increase in VAT to 15% announced in the Budget Proposals will affect you in more ways than you think.

Recent rumours that existing contracts such as cell phones and motor vehicle loans will not be affected are nothing more than wishful thinking. Perhaps even a ploy for April Fools….

The fact of the matter is that VAT cannot be avoided or controlled by a contract. VAT is an inclusive rate of tax and cannot be limited, capped or avoided by any contract. If that was the case, Treasury would have a very difficult time controlling revenue collections.

VAT is charged all over the place

Your lights and water account has VAT charged on all services including rates and taxes. Your DSTV, internet and armed response companies are also affected. In fact every service and product that you purchase will be affected.

Investments yields are affected

Your returns on your investments are affected by the increase in VAT. Admin fees, advisor and fund manager fees are all subject to VAT. These fees are deducted from your returns and the net amount is yours. So your rate of return on investments including pension funds will be reduced.

So the hike in VAT is unavoidable and cannot be averted. We all will be affected in more ways than we realise and no existing contracts can avert the increase.

The consumer price index in South Africa increased 4 percent year-on-year in February of 2018, easing from a 4.4 percent rise in January and below market expectations of a 4.2 percent gain. It was the lowest inflation rate since March 2015.

So what is inflation all about?

Economies depend on the value of their currencies to improve the standard of living of their populations. The cost of living is carefully measured by monitoring the prices in a basket of goods. These prices are factored into an overall percentage which is known as the consumer price index or CPI.

The rate, theoretically, represents the purchasing power of a country’s currency year on year. It stands to reason that the higher this rate climbs the less the purchasing power will be in the future.

Your investments should grow above CPI

If you want you to improve your financial well being your wealth needs to beat inflation. R100 a year ago will have a current purchasing power of R96 at the current CPI of 4%. So the R100 will need at least a 4% return to keep the value over a year and to improve its value and the return should be above this rate (known as the real rate).

We have differing inflation rates

The CPI is an index of 400 items. It can be argued that we all have our own inflation rates depending on the items we actually purchase in the basket. White goods such as televisions and fridges tend to become cheaper over time and these bigger ticket items bring the average down. We don’t buy these items as frequently as food and petrol. So many South Africans may well experience a much lesser value of their rand than the quoted 4%.

Keep a close eye on inflation

When you negotiate your next increase (if you are lucky to get one) be aware of the prevailing rate of inflation. Companies manage their businesses around the rate to ensure that their valuations are real. Your personal wealth needs to do the same. If you are improving above inflation you are growing and if you you are falling behind.

What is trust?  

It is an entity created by someone who relinquishes ownership of assets and passes the control to elected trustees.

The main advantages are:
Asset protection
As the assets no longer belong to you and are owned by the trust they are protected against creditors and legal claims against you. If you are in business, for example, and your go insolvent, creditors cannot get to the assets which are in the trust.

Protection of minor children
A trust is useful to make provisions for minor children who are underage and cannot make financial decisions for themselves. Trustees are appointed to work with a guardian to ensure that the interests of a child’s financial well-being are carefully catered for and protected.

Protection of long-term growth assets
If you plan to keep assets for the provision of generations to come, such as a farm, or a share portfolio as a legacy, then trust is useful as the assets are not disposed of at your death because they do not form part of your estate. This can save huge estate duty costs and capital gains taxes.

Trusts have highly taxed The downside of a trust is that it pays a flat rate of 45% and it does not get any rebates or exemptions on interest or capital gains tax.

The bottom line…….                                                                                                            We all get R3 500 000 off our estates before estate duty is applied. This can be passed on to a surviving spouse. So if you have a joint estate of under R7 000 000 you probably won’t benefit that much from a trust. If your tax rate is below 45% then apart from the reasons mentioned you won’t need a trust.

The main objective of an investment is to achieve consistent returns over time relative to the risk you are prepared to take. The principle to follow is the higher return you expect…. the higher the risk you should be prepared to take.

These returns are subject to tax and fees. Certain investment vehicles such as tax-free savings accounts and retirement annuities escape tax but all investments are subject to fees.

You should be aware of these fees as they have a direct effect on your returns as they are deducted before being passed onto you.

In the main there are three components of fees:

Advisor fees
Your advisor recommends appropriate investments which should align with what you are aiming to achieve from your investment. The choice of funds and structures is the most important decision to consider and sound, qualified advice is crucial to a successful investment outcome. You pay for this advice in two ways.
An initial fee – which is usually a percentage of the amount you invest. Whether this is a lump sum or a monthly amount the fee is deducted upfront and the balance is allocated to the fund. This fee is in lieu of the advice and preparation of the investment.
Annual fee – which is charged to the value of the investment. This is paid to the advisor for the duration of the investment for ongoing advice and attention to the investment in relation to the plan or objective set out. Investing should be monitored along the way ensuring that it keeps in line with your objectives and circumstances. This annual fee is normally paid to the advisor on a pro-rated monthly basis.

An initial fee can be as high as 3% and an annual fee can reach 1% of the value of the amount invested.

Administration fees
The service provider you invest through charges an annual fee on the value of your investment which is applied in the same way as the annual advisor fee. Access to reports and statements of your investment and attending to changes and servicing requirements are all covered by this fee.

This annual fee is normally 0,5% of the value of your fund.

Fund manager fees
The fund manager you choose has the responsibility to invest according to your objectives. There are many types of funds which have specific offerings ranging from aggressive to conservative approaches. Fund managers charge annual fees based on the value of your investment and thesis fees are applied in the same way as the advisor and administrators fee… pro-rated on a monthly basis.

This annual fee depends on the type of fund. Generally, the more aggressive the fund the more you pay. For example, an pure equity fund could charge around 1,5% and a conservative money market fund 0,5%.

All these fees also have VAT applied to them so SARS also is a beneficiary of your investment.

So fees are a reality and should be carefully considered when making your investment choice and you should be very aware of how they affect your returns over time. If you are not getting value from the fees then you should question alternative options to ensure that you are getting what you are paying for.

Endowments are policy contracts which commit you to a minimum investment period of 5 years after which the proceeds are tax-free. They basically provide a so-called “wrapper” around various funds of choice which may be invested in various assets, such as equities, property, bonds and cash. The returns from these assets (other than equities) are taxed inside the endowment at a flat rate of 30%.

Dividends from equities – 20%
Rental income from property – 30%
Interest from bonds – 30%
Interest from cash – 30%

Tax rate below 30%

The main reason why you should not have an endowment is if your tax rate is less than 30% you will be paying more than you should to SARS.
You would be better off investing in the same funds directly without the endowment wrapper.

Endowments don’t offer exemptions on interest
You get an exemption on your interest depending on your age. So if you invest in an endowment you are taxed fully at 30% and no relief is given. So let’s say you have an endowment invested in a money market fund, the full amount will be taxed at 30%. If your rate of tax is below 30% you should invest directly into the fund and you will get

Furthermore, when you cash in your endowment you pay capital gains tax. This rate of tax is favourable if your tax rate is higher than 30%. However, if it is lower, again, you will enjoy a better result on CGT as you get a deduction on your tax return of R40 000 on capital gains before paying the tax. The same fund inside and endowment doesn’t get this relief.

So do you homework carefully. Endowments are generally more beneficial for those with a higher tax rate of 30%.