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In this issue:
Tax implications - Severance Packages
Six principles of Investing
House prices deploying a parachute
7 Ways investing in Property
Get out of debt while the going is good
Retrenchment - The tax implications of severance packages
A recent Mail & Guardian article ("Know your rights" by Maya Fisher-French, 26 March 2009), made the point that about 500 000 jobs were expected to be cut this year.
The purpose of the next two editions of Essentials is to look at the tax implications of severance packages and retirement fund withdrawal benefits respectively. The emphasis in the second part will be on the preservation of retirement fund benefits.
Employers will generally be bound to pay some form of severance award usually linked to the employee's period of service. A typical example would be two weeks' salary for each completed year of service. When it comes to tax implications of retrenchment-packages, it is necessary to draw a distinction between retirement fund benefits and other amounts, which will be referred to as severance benefits.
Case Study: John is employed at ABC (Pty) Ltd. Due to the economic downturn, his employer has decided to reduce the number of senior employees. John's severance award, including accumulated leave pay is R150 000 and, in addition to this the member's interest in his pension fund amounts to R1 000 000.
What are the tax implications?
The severance benefits
The severance benefit may qualify for certain tax concessions provided it complies with the necessary requirements of the Income Tax Act.
R30 000 Exempt amount
In order for the first R30 000 of the severance benefit to be exempt, the following requirements must be met:
- The termination of service must be due to John having become redundant as a consequence of his employer having effected a general reduction in personnel in a particular class; and
- Where the employer is a company or a close corporation - John will not be able to claim the exemption if at any stage he was a director of the company, or
- at any time held more than 5% of the shares in the company or members' interest in a cc.
Average rate concession
Of the remaining amount - R120 000 in our example - an amount of up to three times John's average annual salary in the preceding three tax years may be taxed at his average tax rate. Any sum above this amount will be taxed at John's marginal tax rate. The applicable average rate will be the higher of John's average rates in the current tax year or the preceding tax year.
John will only qualify for this concession if SARS is satisfied that his retrenchment was due to his employer having effected a general reduction in personnel in a particular class.
The point here is that John will not qualify for these concessions merely because he has been retrenched. His retrenchment must be part of a general reduction of staff or a category of staff conducted by the employer.
(Note: There are other superannuation and ill health concessions but these fall outside the scope of our example).
(Courtesy of Glacier by Sanlam: Estate planning Essentials)
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Tackling the peaks and troughs of investing
In many ways, investing and financial planning can be compared to mountaineering. Both have 'treacherous' obstacles to face and overcome. It's worth remembering that before even seasoned climbers tackle their next vertical challenge they abide by a few simple principles that assist them before and during their expedition. These six principles can also offer useful guidance when tackling the peaks and troughs of investing:
1. Start your trip with a clear plan of where you're going, and how long it will take.
Without this, one is almost, by definition, immediately lost! In the investing sphere, this means carefully considering one's mix of current assets and liabilities, expected income and expenses, and figuring out the return required from investment to make the sums add up. And if the target is say 4% above inflation, it is important to realise that at least five years of market ups and downs might be required to give a reasonable prospect of reaching it. For example, each of our branded unit trusts have a particular benchmark and associated recommended minimum investment period. No peak worth being conquered has a short-cut and similarly most investments need a sustained period to flourish.
2. Keep the end goal in mind, but expect difficulties and adversity on the way no mountaineering that I have done has ever involved a flat walk on level ground. And the same goes for investing. The future is always uncertain and that uncertainty is reflected in market fluctuations. When trying to get that 4% above inflation it means being invested in growth assets such as equities. And that means enjoying or enduring the inevitable ups and downs that are a feature of the equity markets along the way.
3. When these arise, trust your navigational tools, don't rely on your feelings when ill-equipped or in-experienced mountaineers get lost they can wander off in odd directions, making a bad situation even worse. A compass, map and GPS receiver limit the chances of disaster by giving objective reference points. In similar vein, understanding the powerful long-run tendencies of equity and other market returns, can keep us from making narrow-minded investment mistakes. It's good remembering that there are always investment choices, some more difficult than others. Fortunately, these are never as difficult as events recounted in the 2003 mountaineering documentary, Touching the Void, in which climber Simon Yates decided to save his own life by cutting the rope of fellow (injured) mountaineer, Joe Simpson.
4. Get up before dawn, and work hard and consistently throughout the day One of the most experienced Drakensberg mountaineers is on record as saying, "Start early each day. That may make all the difference between a little and a life-threatening problem." The comparable advice for investors is: start investing as early as possible to achieve one's financial goals. That will of course allow more time for the powerful benefits of compounding returns (being able to earn returns on your returns) to work in your favour.
5. Remember to seek expert help when tackling unexplored terrain
As an inexperienced climber would learn the fundamentals from a seasoned mountaineer, so should you get advice from an independent financial adviser when you require expert guidance. A financial guide with a proven track record will greatly improve your chances of reaching your investment objectives; choose carefully and you will have a guide who will stick by your side when the going gets tough.
6. Stop and enjoy the view, and reward yourself when you reach objectives. If you don't take advantage of opportunities to do this while in the mountains, there's really no point in enduring the hardships involved in being there. Similarly, investment successes should be acknowledged and celebrated. This will help keep you enthused on the multi-year journey - through easy times and hard - to achieve your carefully thought-out financial goals. After all, investing is ideally not just an end in and of itself, but a means to some greater end. Enjoy the adventure! (Courtesy By David R. Green, Chief Investment Officer of PPS Investments )
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FALLING HOUSE PRICES DEPLOY A PARACHUTE
If you've ever jumped from an aeroplane you'll have a healthy appreciation of the word, "plummet". You'll also know that when you pull the parachute rip cord you don't stop falling. You merely fall at a slower rate - drifting slowly to your chosen landing zone. The latest house price index from mortgage originator ooba - oobarometer May 2009 - reflects a slowdown in the rate of house price decline. In keeping with our opening analogy, house prices have deployed their parachute, and are at last headed for a soft landing. But the bottom isn't in sight yet.
Saul Geffen, chief executive of ooba, says "the oobarometer continues to reflect declines in year-on-year house prices, but at a slower rate." He says there's been a 0.5% decline in annual house prices year-to-year May 2009. This puts the average house at R773 400 and the average 'first time buyer' home at R546 202. Although the decline in house prices is marginal, there's been a big drop in the average bond size recorded against these properties, down 9.9% year-on-year to May!
Statistics contradict opinion
Geffen says "the recent series of interest rate cuts has provided a turning point in the property market and that the market [will] begin to stabilise by the end of the year." But his observation conflicts slightly with the trends reflected by the oobarometer price index, most notably around deposit requirements. The average deposit as a percentage of purchase price is currently 22.6%, up from the 14.4% reported in May 2008. "There has been a significant increase in deposits now required to purchase a home," says Geffen.
Let's take a moment to reflect on this deposit requirement. A prospective buyer now has to find R169 500 (excluding bond, conveyance and transfer costs) to purchase a middle-of-the-road R750 000 house. South Africa's treacherous national savings rate probably means that most individuals have to start the savings process from scratch. It would take a buyer almost three years to 'save' enough to cover the deposit, assuming they had R5 000 per month spare. How can Geffen predict a turnaround in average house prices under these conditions?
He admits that "the lack of funds for deposits, despite good credit scores, is a big contributor to the current sluggishness in the property market." The National Credit Act and tight bank credit extension could thus keep the lid on prices for quite some time. The oobarometer also reveals that the average decline rate on mortgage applications has reached 49.5%. In other words: one in two new mortgage applications is declined by the first bank to process it. Only 26% of these decline decisions are reversed at a second bank. We've even heard of internal home loan processing units that decline nine out of every 10 applications!
(Courtesy: FAnews Editor)
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7 ways to invest in property
Also read:
How to avoid sure-fire ways to lose your money
Access point |
Main features |
Advantages |
Disadvantages |
Direct property ownership |
Buying your own property outright to rent out |
. You have full control over the investment |
. A lack of liquidity
. The need to actively manage your investment
. Rental yields are still low
. There is a high entry cost involved
. There is little or no diversification of assets |
Joint venture/ partnership |
Buying an investment property in conjunction with other parties |
. You gain access to higher value properties than would be possible on your own |
. A lack of liquidity
. Potential disagreements with partners
. There is little or no diversification of assets
. Low income yields |
Property Syndication |
An unlisted investment scheme that enables a group of investors to buy property and become part owners of it, either directly or indirectly. The schemes can be structured in different ways, with different cost layers attached to them. |
. You pay a lower individual entry cost as it is spread amongst a group of investors |
. They can involve very high management costs
. There is no formal market and therefore it is not well-controlled
. There are liquidity constraints, making it difficult to exit the investment. These are a result of the lack of a formal market
. There is scope to manipulate property values
. Generally there is little or no diversification of assets |
Listed property |
Property Unit Trusts (PUTs) and Property Loan Stock (PLSs), which are effectively REIT's, and which are listed on a financial exchange like the JSE |
. They are highly liquid
. They're managed by professionals who can select the best properties
. The costs are explicit
. There is considerable diversification of assets, both geographically and across sectors
. PUTs and PLSs are a highly regulated market, which protects investors |
. A limited downside is that you can't control which properties are purchased, but you can sell in the very liquid market if you do not like the strategy of the PUT or PLS |
Exchange Traded Funds (ETF) |
An ETF is established as a collective investment scheme, like a unit trust.
The aim of the scheme is to replicate, as far as possible, the price and yield performance of a specified Index, in this case, the Listed Property Index.
The units or shares of the funds are generally listed on a financial exchange like the JSE. |
. They are easy to access and there is a low entry cost
. They are flexible, it is easy to scale up or down
. They are highly liquid, like other listed entities
. There is greater transparency in terms of the investments and interests
. ETFs are a well-regulated market |
. If you like to actively manage your portfolio, this may not suit you |
Collective Investment Schemes |
A unitised fund set up under a trust deed that allows investors to participate in a larger pool of assets, in this case, a pool of property assets. |
. They are highly liquid
. They are managed by professionals
.All the costs are explicit
. There is considerable diversification of assets, both geographically and across sectors
. CISs are a highly regulated market |
. They tend to track the index in any event, due to the relatively small universe of listed property shares and units
. There can be steep management fees involved |
Offshore property |
Offshore property investments can be made in any of the vehicles shown above. However, the additional dimension of offshore investment diversification is added, for example, property in London or Paris. |
. This offers good diversification, as you can spread your risk across different geographic regions |
. You take on exchange rate risk
. You may not understand the foreign market, and could end up investing in low-quality properties.
. If you are investing in direct offshore property, ask the question: why did they come to Africa to sell the property, and why could they not sell the property in their own market (if it is so good)? |
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Get out of debt while the going is good
You should use the opportunity of lower interest rates to pay off your debts and to start saving. This is one of the messages of National Savings Month, which will be launched in Johannesburg on Monday.
And there is a "sign of hope" that South Africans are paying off a little more debt and saving a little, despite the credit crunch and economic recession.
But we all need to do more to reduce debt and improve the level of savings, Elias Masilela, the chairman of the South African Savings Institute (Sasi), says.
The financial crisis makes the National Savings Month campaign even more critical this year, he says.
Masilela says you have a better chance of sailing through the recession if you:
- Fully appreciate and understand the need to manage debt;
- Live within your means; and
- Have built up savings.
Masilela says the anthem of our times seems to be: "I want it all and I want it now." Instead, he says, you should resist the debt devil on your shoulder and live by a different anthem: "I don't need to have it all and I don't need to have it now."
He says: "Learning gratitude for what we have and saving towards the things we don't have must be part of a holistic approach to build a financially robust South African society."
Despite the economic crisis, Masilela says South Africans have reduced their debt slightly and improved their savings, but these trends must be maintained.
He says that internationally and locally part of the responsibility for the recession is being attributed to the poor financial literacy of individuals. In other words, many people do not understand why they should not borrow excessively and should save for what they want.
High debt levels and low or no savings continue to ravage South Africans, with home and motor vehicle repossessions remaining high and the number of people who require debt counselling soaring.
High-risk recovery
John Loos, the strategist at First National Bank Home Loans, says currently there is a much lower risk that you will lose your home despite the high debt levels and poor savings rates.
But this lower risk can be attributed to a slowing inflation rate and the reduction in interest rates by four percentage points this year. This, he says, makes the recovery high risk.
Loos says there is a growing risk that you will get into serious financial difficulty, particularly once interest rates start to climb again.
He warns that if you do not do something about reducing your debt levels now, while interest rates are near or at the bottom of their cycle, you could very well be in trouble when they rise again.
He says total debt remains at much the same level. The only reason more people are not getting into trouble is because their debt repayments are lower, Loos says.
The latest home loan figures also point to total debt figures being lower because buyers are finding it difficult to obtain home loans.
Jacques du Toit, the senior analyst at Absa Home Loans, says: "The latest mortgage advances data released by the South African Reserve Bank indicate that year-on-year growth in mortgage advances slowed ... to the lowest and also the first single-digit growth since September 2000."
Last year, Sasi started to target its message at children to create a financially literate generation with a culture of saving. Sasi aimed to provide 10 000 learners in 90 schools with a basic course in finance, but it managed to reach 50 857 learners in 228 schools.
This year, Sasi aims to present its financial literacy course to 100 000 learners in 300 schools between July 20 and 24.
Masilela says it is possible to save even in difficult financial times. It may require tough measures, such as spending less, but you can do it.
He says a period of lower interest rates provides you with the opportunity to get rid of debt faster, allowing you to start saving sooner.
Incentives to save
Elias Masilela, the chairman of the South African Savings Institute, says the main reasons you should save are:
- You improve your bargaining power when you can pay in cash;
- You do not have to take on expensive debt to finance ad hoc expenses, such as furniture or a vehicle;
- You are better placed to withstand financial shocks, such as replacing a faulty stove or paying for a funeral;
- You will have spare cash to invest, which will further improve your financial well-being over the long term; and
You will not be caught out when interest rates rise again, leaving you exposed to things such as the repossession of your home or your car.
Courtesy of Bruce Cameron Editor: Personal Finance
This article was first published in Personal Finance, a publication of Independent Newspapers, published in The Saturday Star, The Saturday Argus, The Independent on Saturday and the Pretoria News Weekend."
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