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4 Aug 2015

LOW COST TAX-FREE INVESTMENT

My previous post on the Tax-Free savings account looked at the investor who has the R30,000 R33,000 per year. This excludes a whole lot of people who are still busy fighting debt or afford less. Its only fair to go through a different low cost tax-free investment exercise. Reading this post together with the previous one may be beneficial as some of the information given in that post helps clarify this tax benefit better. You may also look at the other post on tax free savings and the one on Exchange Traded Funds (ETFs).

The most effortless way to invest in shares is through ETFs in my opinion. This should be a great option for those who lack the time and resources to invest in individual company and industry research. Losing money in the stocks, especially when you do not have a well-informed strategy is quite easy. The stress that goes with speculation can be outsourced to ''experts'' who are well trained to read the markets. A hands-on approach is also not a bad idea for inquisitive minds like mine. It is important to remember that, only a few of us can manage to be jacks of all trades with success. Definitely not me. That is the reason I strive for a diversified portfolio, with some loyalty to property investing. Real estate is my passion and what I have chosen to pursue. I am well pleased with the fact that it remains my main source of income. But that is not the point of this post.

Our low cost tax-free investment exercise will be on a R500 per month amount. To spice the exercise a bit, I am throwing in R3000 extra from the investor's annual bonus. I have such an overactive imagination, I know. Our investment qualifies to be referred to as low cost because ETFs are generally relatively cheap investments.

Remember that you can invest your monthly R500 in one ETF, a combination of two ETFs or even a combination that includes any other two qualifying products. National Treasury mentioned the collective investment schemes, bank savings accounts, fixed deposits, retail savings bonds, REITs, etc, as qualifying products. Let us quickly list our assumptions:
  • Similarly to our previous example, I am using 25% annual return. (Again this is attainable).
  • Monthly Investment of R500
  • Every year, the investor adds a R3,000 into the fund from their annual bonus
  • Return per annum 25%
  • Term in years 16 (I am using the same number of years from our previous exercise for consistency’s sake. More years at this amount make better investment sense.)
  • Tax Rate 0%
  • All income like dividends earned is re-invested
  • There are no withdrawals throughout the investment period
Year Beginning of Year Interest End of Year Contribution
Year 1R3,500R1,720.12R10,720.12R9,000
Year 2R14,220.12R4,729.59R24,449.71R18,000
Year 3R27,949.71R8,583.92R42,033.63R27,000
Year 4R45,533.63R13,520.30R64,553.92R36,000
Year 5R68,053.92R19,842.44R93,396.36R45,000
Year 6R96,896.36R27,939.41R130,335.79R54,000
Year 7R133,835.79R38,309.48R177,645.27R63,000
Year 8R181,145.27R51,590.75R238,236.02R72,000
Year 9R241,736.02R68,600.49R315,836.51R81,000
Year 10R319,336.51R90,385.39R415,221.91R90,000
Year 11R418,721.91R118,286.03R542,507.92R99,000
Year 12R546,007.92R154,019.21R705,527.13R108,000
Year 13R709,027.13R199,783.86R914,310.99R117,000
Year 14R917,810.99R258,396.06R1,181,707.05R126,000
Year 15R1,185,207.05R333,462.57R1,524,169.64R135,000
Year 16R1,527,669.64R429,602.64R1,962,772.27R144,000
Results
  • Total Amount Invested is R144,000 ((R500 X 12)+(3000))X16
  • End of Term Balance is R1,962,772.27
  • Total Interest (income) earned R1,818,772.27
It does look impossible to turn R500 per month into almost R2 Million, but if this particular fund continues performing as well as it currently does, this outcome is a possibility. As mentioned in the previous post, this government incentive means no income tax, no dividends withholding tax and no capital gains tax.

Once again, please do:
  1. Ensure that your investment product of choice does qualify to be one of the tax free savings accounts. Most exchange traded funds (ETFs) qualify.
  2. Note that our exercise is on a 16 year term, however one can go on until they reach the allowed maximum contribution of R500,000 in their lifetime (at the moment: August 2015) whilst avoiding to exceed R30,000 (increased to R33,000 in 2017) in any one year.
  3. Note that withdrawals cannot be re-invested and still count as part of the lifetime limit.
  4. Report to SARS in the section under income earned in the tax free account and declare your income as non-taxable.

Note:
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