For example, tax incentives for investing in venture capital companies are designed to funnel private wealth into job-creating businesses.
While few people have the resources to make (potentially risky) investments in the newest disruptive technologies, there is a way for the rest of us to invest our cash and get a tax benefit while we’re doing it.
Tax free savings accounts themselves are straightforward: they’re just the good old-fashioned savings or investment accounts which, following some tweaks to the relevant laws, can now be called tax free accounts. That means you pay no tax on the returns on your investments in those accounts.
That’s great news for savers. If you have a choice between putting your money into an account in which you suffer a deduction on your returns or one on which you don’t, well that’s hardly a choice at all.
There is, of course, a catch. SARS doesn’t just give away tax breaks for free.
Your tax free investment is limited to R30 000 per year, and your lifetime tax free investment is capped at R500 000. (Presumably these limits will increase to keep up with inflation, but there’s no reason to think the basic structure will change.) Any contributions above your annual limit will be heavily taxed, so put them somewhere else.
That means that the way tax free savings are regulated, it takes years to reap real rewards from your investment.
That’s not the most exciting news for anyone looking to make a quick buck, but it’s actually a really great incentive to save, especially for young people.
The very idea of a tax free savings account is cool. It’s a good talking point and a way to get people who haven’t really thought about saving to think about smart places to put their money.
Every time you withdraw money from your tax free account, that amount is deducted from your lifetime limit. So there’s a strong incentive to keep your cash invested unless you really need it.
Tax free savings accounts really comes into their own when you’ve invested enough to earn meaningful returns. Given the annual limit, it will take a number of years before your investment produces substantial returns. At that point, you’ll be very pleased that you don’t have to pay tax on your gains. However, in order to reach that point, you will need to consistently add to your tax free account, ideally contributing as much as you are allowed in a given year.
In short, tax free savings accounts incentivise consistent saving and are a disincentive to removing cash from your investment without a compelling reason. Those are great savings behaviours that all South Africans needs to start taking to heart. After all, maximising wealth isn’t difficult, but it does take consistency and thoughtfulness. Tax free savings can be a great incentive for all of us to start saving more wisely.