Two investments may offer identical returns, but the realized after-tax returns may look significantly different, says Kelin Pottier, product development specialist at 10X Investments.
Understanding the tax implications is essential to structure your investment decisions in the most tax-efficient way. Taxes reduce the return on investment in the same way as costs and charges.
Few people really understand the taxes they pay, let alone wonder about the allowances and incentives that can dramatically change their bottom line – which is why, as an investor, these are the taxes you need to know. , said Pottier.
Most people are familiar with income tax, known as Pay As You Earn (PAYE) in South Africa. This is calculated on a sliding scale where the more you earn, the higher your tax bracket and the more tax you pay.
Which tax bracket you fall into is important because it determines your marginal tax rate, which is the tax rate you pay for each rand of additional income you earn.
Any interest income you earn – whether from a savings account, stokvel, or government bond – is included in your overall taxable income and taxed at your marginal tax rate. . The same goes for rental income and real estate investment trust (REIT) distributions, the latter of which invest your money in income-producing real estate.
Withholding tax on dividends
Dividends, the portion of profits that a company pays to its investors, are taxed at a flat rate of 20%. When paying a dividend to investors, a company automatically withholds dividend withholding tax (DWT) and remits it to the South African Revenue Service (SARS) on behalf of the investors.
If a company declares a dividend of R 10 per share, it will pay a tax of R 2 on each share to SARS, and investors will receive the remaining R 8 per share in their brokerage account.
Capital gains tax
When you sell an investment in a collective investment scheme, such as a mutual fund or an exchange-traded fund (ETF) that is bought and sold throughout the day on the stock exchange, for more than you get. have paid, the profit is known as capital gains and is subject to the Capital Gains Tax (CGT).
Capital gains are included in your total taxable income at an inclusion rate of 40% and taxed at your marginal tax rate. An inclusion rate of 40% means that 40% of profits are taxed rather than the full 100%.
Capital gains tax is only realized when you sell an investment. If you don’t sell, you pay no CGT. If you only sell part of your investment, you pay CGT on the part sold.
For example, Sindi earns 33,000 rand per month (396,000 rand per year). Its marginal tax rate is 31%. She buys five stocks in a JSE Top 40 ETF for R 100 each (total R 500).
The market is having a great run and ETF shares are now worth R200 each. Sindi decides to sell three of the ETF shares (for R600) and makes a profit (i.e. a capital gain) on these three shares.
If Sindi sells her ETF shares today, she makes a profit of R300 (R600 from the sale minus a cost of R300). The profit of R300 is included in its taxable income at the inclusion rate of 40% (R300 x 40% = R 120). The R120 is taxed at Sindi’s 31% tax rate, which amounts to R37.20.
How to minimize taxes and maximize returns on your investments
There aren’t many ways to pay your tax owed, although South Africans can reduce their taxes paid and maximize their returns on investment by investing in tax-efficient products, such as retirement funds. .
Contributions to a retirement fund are tax deductible, and the growth of investments in a retirement product is exempt from tax on interest earned, dividends, or capital gains.
Consider two people, Sindi and Samantha, who each earn Rand 400,000 per year at a marginal tax rate of 31%. Sindi contributes R3,000 per month to his retirement pension, an annual contribution of R36,000. Samantha does not contribute to a retirement fund.
By contributing to a retirement product, Sindi reduced his taxable income by Rand 36,000 and saved Rand 11,160 in taxes. Individuals are entitled to tax relief on the lesser of 27.5% of their income and 350,000 Rand.
By not paying tax on the growth of investments in a retirement product, investors are able to accumulate tax benefits over time as they effectively “reinvest” their tax savings and achieve compound growth. on those savings.
There is a good reason why saving for retirement is incentivized, because the more we are able to support ourselves in our old age, the less the burden falls on the state and / or other members of the community. society, such as family and friends of the sick. -prepare. Tax incentives on retirement savings are one of the best tools available to South Africans.
Paying taxes is an important obligation on society, and being tax efficient is a duty to yourself and your family. Every tax rand saved is a rand earned.
The content of this document is provided for general information. It is not intended to constitute and does not constitute financial, tax, legal, investment or other advice.
- By Kelin Pottier, Product Development Specialist at 10X Investments
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