Following the recent 2016/17 budget announcement, individuals and companies may be breathing a collective sigh of relief because personal tax, company tax, dividend tax, donations tax, estate duty and the VAT rate remained unchanged. Investors will, however, need to remain cognitive of the possible impact the increase in Capital Gains Tax (CGT) may have on future investment returns. Here are some of the key reasons why tax can kill your investment performance.
All investors who want to get the maximum benefit from their investments will need to remain tax-smart and make provision for tax-free and tax-friendly investments. Let’s consider some of the implications the revised CGT rate may have on your investments.
In 2013, the Finance Minister increased the CGT inclusion rate from 25% to 33.3%. This year it was further increased to 40%. This means that from 1 March 2016, 40% of the gain on the sale of an investment will be added to your taxable income and taxed at your marginal income tax rate. However, the annual threshold for CGT was also increased from R30 000 to R40 000. So, if your capital gain exceeds the increased annual exclusion amount, CGT will be payable under the tax rate.
For example, if an investment grows from R500 000 to R850 000 over five years, it achieved an annual rate of return of 11.20%. However, to arrive at the real rate of return, the effect of taxation should be considered and in this case CGT.
- As illustrated in this example, the resulting capital gain is R350 000, from which the annual exclusion of R40 000 (for individuals) is subtracted. The capital gain is then multiplied by the new inclusion rate of 40% and added to the investor’s taxable income, and taxed at the individual’s marginal tax rate. If we assume the investor is in the highest tax bracket (41%), the calculation would look as follows:
- (Capital gain – CGT Exclusion Amount) x CGT Exclusion Amount x Marginal Tax Rate, or then:
- R350 000 – R40 000 = R310 000
- R310 000 x 40% = R127 100
- R127 100 x 41% = R52 111.
- In the previous financial year 2015/2016, the CGT for the same investment would’ve resulted in GGT of R43 296.
- The effect on your invest would be that in the 2015/2016 tax year, the 11.20% annual rate of return would have been reduced to 10%. In the current year and under the new tax rates, this is reduced to 9.8%.
It is said that the only certainties in life are death and taxes and in both instances, the bottom line is that regardless of your investor life stage, it is essential that you a meet with your financial advisor at least once a year, ideally in March after the annual budget announcement, to adjust your portfolio so that you will continue receiving maximum return. Download our handy investor’s tax guide for 2016/2017.
Follow the blog series and interviews on Groot FM and KykNet to find out more about how tax can affect your investments, and how you can structure yours as tax-friendly as possible.