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I'm max'ing my RA investments & I don't like it |
1 March 2012. Call me arrogant, but I think I can achieve better results than most asset managers, IF the taxation playing field was even. However, given the removal of dividend tax from retirement funds and the increase to 15% of the dividend tax on individuals in Budget 2012, I started wondering whether I am in fact better off handing my money over to the asset management industry. This analysis is based on a load of assumptions, some of which will undoubtedly be wrong, but I'd rather be partially correct than invest without thinking about the facts. I'm not a tax expert, so will happily accept any corrections from readers.
Doing it on my own has a guestimated tax drag of some 2.2% p.a. and an income tax differential of some 0.3% p.a., but a saving of asset management fees of 1% p.a. This means that I need to be able to outperform asset managers by 1.5% p.a. to make it worth my while to go it alone, rather than using a retirement fund. The working of how I got to these numbers follows later.
I believe in my abilities, but I'm not sure that I could easily outperform asset managers by 1.5% p.a., and that is why I'm investing as much as I can in my retirement fund with Allan Gray. It's a pity that the government has chosen to make the taxation playing field so uneven, that one is forced to enrich the asset management industry rather than allowing citizens to take matters into their own hands.
I can understand government wanting to encourage people to save for retirement, but it surely is not there intention to enrich asset managers at the expense of the personal freedom of its citizens.
There is a way of allowing people the liberty of carrying out investment activity themselves at the same time as saving for retirement. A reader pointed out that in the Land of the Free there's allowance for Self-Directed RAs.
Asset managers hate Self-Directed RAs, as they can't make FAT asset management fees, and would lobby against them. You would hear arguments that reckless investors would squander their retirement savings - but to me that's just part of freedom, that you've also got the freedom to stuff things up. Besides, it's not like all the professionals are showering themselves in glory - witness the rapidly shrinking portfolio that Sactwu invested with Trilinear, the Joint Municipal Fund's losses after dabbling in maize futures or money invested with Fidentia.
Assuming an average allocation of 50% to SA Equities, 25% to SA Interest-bearing assets and 25% to foreign equities we're looking at an average tax drag of 2.2% p.a.
|
Asset allocation |
Guesstimated Tax drag |
SA Equities |
50% |
1.9% p.a. |
SA Interest-bearing |
25% |
3.2% p.a. |
Foreign equities |
25% |
1.7% p.a. |
Investing by yourself generally attracts a dividend tax of 15% whereas retirement funds pay no dividend taxes. Assuming a dividend yield of 2.8%, this equates to an annual loss of 0.42% on South African equities.
This is the area I'm most uncertain of, but I assume that foreign dividends will also generally be taxed at the rate of 15%. At a dividend yield of 2%, this equates to 0.3% p.a.
The Capital gains tax rate was increased to 33.3% for individuals, and the annual exclusion to R30,000. Let's assume that stocks are held for 3 years on average, and that there's a gain of 36% over that period, and that there's no exclusion. There's an inclusion rate of 33.3%, so the included return for CGT purposes is 0.333*48% = 12%. Since my marginal tax rate is 40%, I'm looking at an average annual CGT rate of some 0.12*0.40/3 = 1.6%
To allow for the exclusion of R30,000 we need to assume an investment amount. Let's assume R1m, then the assumed gain over 3 years is R360,000, less a R30,000 exclusion gives R330,000. Since 33.3% of this is taxable, we have a taxable amount of R110,000. Applying a 40% marginal tax rate to a R110,000 gain gives R44,000 or R14,667 p.a. (on R1m, this equates to 1.5%).
The Minister of Finance indicated that the tax-free interest allowance may be phased out in favour of tax-free vehicles, so for long-term planning it's prudent to assume that it's completely removed. For me this would mean interest being taxed at a rate of 40% (my marginal tax rate). If I'm earning 8% p.a. this means a tax drag of 3.2% p.a.
Investing in a retirement fund contains something of a hope that income tax rates at the time of retirement will be lower than income tax rates at present. I know that I'm saving tax now, at a rate of 40%, by contributing to a retirement fund. It's difficult to tell what rate of tax I'll be paying when I receive the money back in the form of an annuity & lump sum years later. As a complete thumbsuck let's assume a 6% saving, over 20 years that equates to 0.3% p.a. (this will obviously differ vastly between people, if your only source of income at retirement is your retirement annuity there may be a significantly larger saving).
By investing by myself I don't have to pay asset managers anything. Let's assume that there's 1% p.a. I'm saving here (for simplicity of argument, ignoring platform fees as well as costs of an online trading account).
Trading costs are lower for asset managers, but they have to move larger amounts and therefore will move the market more. For simplicity's sake, let's assume that these cancel each other out.
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