How can I reduce my tax liability and plan for estate duty?

The reader has identified several solid strategies a retiree can use to reduce his tax liability, but let’s look at the situation holistically.

Donating some assets to his wife, who has a lower tax rate, makes sense on many levels. This will lower the tax bill and ensure she has sufficient liquidity should he predecease her. She will also be able to fully utilise her interest and capital gains allowances.

In terms of Section 56(1)(b) of the Income Tax Act, such donations do not attract donations tax and do not constitute a capital gains tax event. (Note: an amendment is under way so that this only applies to spouses who are South African tax residents).

Leaving all assets to a spouse is another way of postponing estate duty in terms of Section 4(q) of the Estate Duty Act.

With modern families where second marriages, stepchildren, half-siblings, et cetera are the norm, I recommend a proper estate plan, and perhaps the use of a trust or usufruct provisions, so you don’t leave an unholy family feud upon your passing.

RAs, even in retirement, are another great way to bring down your tax liability, and simultaneously remove the investment from the clutches of estate duty.

Perhaps the wife should also have an RA if she has maxed out her annual allowances and has gone over the tax threshold.

Ask your advisor or tax practitioner to run some ‘what if’ scenarios to find the optimum split between the two spouses.

I have never been a huge fan of ‘endowments’. If and when indicated, I prefer ‘sinking funds’ – which have no ‘life assured’, so they don’t die when you do. The beneficiary can then retain the investment as part of the estate without having to cash it out (perhaps restarting the five-year clock and paying upfront advisory fees all over again).

Read:

Does my wife qualify for the R500k tax exemption on retirement?

Here are some things to bear in mind. The flat rate of tax within the endowment – all income and capital gains – is 30%, so at the bare minimum, your average tax rate should be well above this, and you should have maximised your annual interest and capital gains allowances.

They are not tax-free; they are taxed within the fund, so you don’t ‘see’ it.

They also have a five-year minimum term (but you can make one withdrawal and one loan – but there is a cap on the amount).

For a 70-year-old, this may not be ideal, but a retirement plan that covers all required present and future cash flows will clear this up.

Be aware of fees when setting up endowments, especially on insurance platforms where upfront fees apply, and fund fees – which can vary considerably.

For a retiree, sustainable cash flow is the primary consideration. Sustainable means that it needs to increase with inflation and never run out.

With money market investments and RSA Retail Bonds (which I assume are being used to top up cash flow) – continuing to generate real returns above inflation (unusual in the long term), the problem arises if none of these returns is reinvested.

Read:

Can I start a new retirement annuity at 54 and contribute ad hoc?
How can I invest my money more tax-efficiently before retiring in 2027?

Many of these investments are termed, say, five years, giving a nice interest return and returning the same capital invested at the end of the term. Inflation erodes the purchasing power of that capital over the five years unless you take some of that interest and reinvest it to offset that erosion at the end of the term.

For a retiree in the reader’s position, perhaps a single balanced discretionary fund (or two, if you include his wife) designed to mimic a pension and produce a consistent income over time is the best solution.

This is probably best done in a discretionary mandate portfolio rather than using collective investments.

The asset manager can design a portfolio using bonds, money market instruments, Reits (real estate investment trusts), equities, et cetera, to produce the desired income, while ploughing back some of the income to ensure the capital grows and the income keeps up with inflation over time without eroding the capital.

This takes much of the work out of managing multiple investments, maturity dates and how much to reinvest.

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