The benefit of the Tax-Free Savings Account (TFSA) is best realised when staying invested for the long term, to allow for capital appreciation to take place. The tax-free interest or return earned on the investment over time can then be re-invested to get you closer to your savings goal.
TFSAs introduced to get South Africans to save more
“South Africa’s current savings rate is extremely low by global standards,” Motlatsi Mkalala, Head: Main Market at Standard Bank, explained. “With gross savings of less than 15% of GDP in 2019, the country has one of the lowest savings rates in the world and is far below the world average of 25.1%. Statistics show that only around 6% of the population will be able to retire comfortably.”
He said that in light of poor levels of saving, the government introduced the tax-free savings initiative in 2015. The idea with this vehicle is to get South Africans into the habit of saving by providing an incentive for them to do so, which is that all proceeds earned from TFSAs — including interest income, capital gains and dividends — are exempt from tax, meaning that you get your full investment return, without being taxed on the growth you earn.
Know your contribution limits
Mkalala explained that you can start saving in a Standard Bank tax-free call account with as little as R250 and contribute up to R36 000 per tax year, while the lifetime limit of the investment is set at R500 000. This means that all interest earned on those contributions will be free of tax. He added that there are no restrictions on how many TFSAs one can have, but that it is important to remember that you will have to manage them carefully, especially if you have different TFSAs with different financial institutions, as the collective amount saved must not exceed the R36 000 annually or R500 000 over the lifetime. This is where expert advice and management becomes helpful.
Parents can also open a TFSA on behalf of their children and can save up for them in the TFSA vehicle, which is seen as separate from theirs and will not eat into their own contribution limits. “TFSAs are one of the most tax-efficient ways of securing your child’s future success. The benefit is that with time on your side, the investment stands to benefit from the magic of compounding — even if it is a small amount each month.”
It’s important to remember that if you invest in a TFI in your child’s name and contributions reach the R500 000 threshold (as per current legislation) when they reach 18, they would have made use of their personal lifetime limit and will not be able to continue their contributions or invest in a new TFSA. It is, however, probable that the lifetime limit may be increased over time.
In the meantime, it is important to remember that the South African Revenue Service (SARS) does impose penalties on any contributions that exceed the annual and lifetime limits. The tax penalty that SARS imposes is currently sitting at 40% of the overcontributed amount. If you have reached your limit with a TFSA but have additional funds that you wish to save, consult with a financial planner to explore other vehicles for your additional savings to ensure tax efficiency (in other words, to limit the tax) across your investment portfolio.
Beware of withdrawals
Mkalala said that you can withdraw money from TFSAs as and when you like, depending on the type of account, without attracting any costs from the financial institution. He said that withdrawals must be considered carefully, however, because once an amount is withdrawn, that amount is deducted from your lifetime contribution limit. If, for example, you were to save R100 000 in your tax-free savings account, and you withdrew the full amount, your total remaining lifetime contribution would be limited to R400 000. Similarly, if you contribute R36 000 for the tax year, and you withdraw R10 000, you will not be able to contribute again during that same tax year.
“It is critical to keep in mind the impact that withdrawals can have on your ability to take full advantage of the benefits of the TFSA. Of course, it is your money, and you can decide how you wish to use it, but the idea with the tax-free vehicle is to stay invested for the long haul so that you can earn the maximum amount of interest, which can then be reinvested, and the cumulative amount can grow to the maximum, thanks to the magic of compound interest.”
Stay for the long haul
With so few South Africans able to retire comfortably, Mkalala said that part of the reason the government implemented the tax-free initiative is to encourage people to save for their retirement, although he added that some people may use the vehicle to achieve other life milestones. “Everyone will have their own reasons for saving, but the idea with this vehicle is to save for the long term and to reach the R500 000 limit, as when you achieve that, you will then start seeing the benefit of having stayed the journey.
“At Standard Bank, we encourage individuals to take a long-term viewpoint when using the tax-free savings or tax-free investment account. South Africa needs to move in a direction where people understand the principles of investing, with time being one of them, as well as the type of asset base that makes up the fund you are looking at.”
Tax-free investment vs savings
Mkalala explained that the key difference between a tax-free savings and tax-free investment comes down to the way the accounts or funds are structured and the underlying assets they are invested in. For example, a tax-free savings account will let you withdraw your money at any time whereas with a tax-free investment, you will stay invested over a term, which could be six months, one year or five years.
It is also important to remember that not everything is made equal in terms of the asset class that you are going to be invested in; some are cash, some have bonds or equities and that will contribute to the performance of that account or fund. The investment fund will also carry a certain level of risk. So, how do you choose an underlying asset?
Mkalala explained that it all depends on your needs and unique goals as an individual. This is where it becomes valuable to consult an experienced, certified financial adviser who will conduct a financial needs analysis to determine your risk appetite. They will then be able to craft a financial plan that incorporates appropriate savings and investment vehicles that are aligned and linked to your future and what you wish to achieve.
Why is it an opportune time to take advantage of a TFSA?
Many of us will delay saving until such time when we have the money to save when in fact, that day never arrives. But it is never too late or too early to start saving and it is important to start now and take advantage of vehicles like the TFSA that help you to bolster your savings. “We must start now because if we do not, we won’t have enough to sustain us over our retirement. As a result, what happens? We then depend on the social system, which will hinder economic growth and prosperity of communities.”
If you haven’t started saving, consider using the TFSA vehicle as a platform to start, for as little as R250 per month. Standard Bank’s tax-free call account allows South Africans to make use of the government’s offer of making tax-free investments of up to R36 000 a year or R500 000 over their lifetime — through investing in exchange traded funds (ETFs) on the Johannesburg Stock Exchange.
The account gives investors access to more than 70 selected ETFs when they invest from only R250 in the call account. An ETF is a basket of investments like stocks and bonds that allow you to invest in several securities at once.
The added benefit of investing in a tax-free investment account is that you can leverage the returns of your investment earned over time. The returns can be re-invested without utilising your annual contribution limit, if you don’t make withdrawals.
“What makes the tax-free investment account a powerful investment vehicle is the compounding effect of the tax savings over time, coupled with the investment growth. Investing in a tax-free investment call account with Standard Bank is a seamless and rewarding experience,” concluded Mkalala.