Balancing Investments: Unpacking the Benefits of TFSAs and RAs

He calls them retirement packages and you know he understands the benefit of the tax-free savings account in that you can put money in and you don't pay any tax on any interest , any dividends or any capital gains tax when you draw the money out one day .

Equally , he says that he understands the tax break that you get on a retirement annuity , where you get a tax deduction on all of the contributions that you make to a retirement annuity . But he's worried that then later on in life you pay tax on the money that you take out of the retirement annuity .

And then also he makes the comment that on a tax-free savings account you can invest in anything you want , so you can make it 100% in global shares , as an example , whereas retirement annuities are governed by Regulation 28 , which stipulates how much you can have in cash , bonds , property and shares and how much you can have in South Africa and how much you can

invest globally . So I just want to talk about Regulation 28 quickly and then get to the other things .

So just to understand , regulation 28 controls the maximums that you can have in your retirement fund and to me , if you've got a 20 or 30-year time horizon ensuring that you've got , let's say , 75% in shares and then another 10% allocated to property companies , to listed properties , so then you're at 85% with the balance in cash and government bonds .

That's considered quite an aggressive , balanced portfolio and would be appropriate for almost anybody . What you need to understand when you're investing is that you're looking at time horizon as one factor , and it's a very important factor . So the longer you've got to invest , the greater the risk that you should take , in other words , the more exposure to shares .

However , the other thing that you have to consider is your own psychological tolerance for risk , and so your tolerance for risk is unique to you . It doesn't matter whether you're an accountant or a financial planner or an actuary or a carpenter or a plumber or a street sweeper .

Your tolerance for risk is a hardwired response that's built into you on day one of your life . So you know it's got the same kind of psychological makeup as to whether you've got a phobia for heights or , you know , you're terrified of dogs or something like that . It's not an education or financial literacy thing . It's a psychological response .

If you're 25 and starting out and you're earning a good salary and you put 100% of your money in shares but you've got no tolerance for risk , what's going to happen is , the first time you've got a big stock market crash that hits your investment , you're going to make a bad financial decision and most likely , what you're going to do is you're going to change

from 100% in shares to 100% in cash . That's human nature . That's what people are doing in large numbers on a stock exchange . You know decade after decade for the last 150 years . So unfortunately , you know psychologically we're not wired to be great investors and that's not a reflection on your intelligence or your literacy .

It's a reflection on your innate psychological tolerance for volatility .

So I think you've got to find a balance between your time horizon and your tolerance for risk , and so if you can invest in a balanced portfolio which is what Regulation 28 is aiming for and you can ride out the losses , then I think it's not a bad investment for anyone , whether you're 21 or 60 .

That kind of allocation 75% in shares with the balance in cash , bonds and property companies is a very good allocation and over long periods of time will give you , you know , good capital growth . And then just to understand that your offshore allocation in retirement funds is currently sitting at 45% .

So that means that you can choose a unit trust or an index tracker that has a very high allocation to the offshore markets at 45% . And if you look inside the JSE , there is probably another 60% or 70% of the JSE is also RAND hedged away from the South African economy .

So actually the story that you don't get a lot of global exposure inside retirement annuities because of Regulation 28 is just not true anymore . That's kind of what the product pushers are trying to do to scare you to not put money into retirement annuities .

I think it's a lot of hogwash , in all honesty , and a lot of retirement fund managers , even though they're allowed to now go at 45% offshore , they're not necessarily going to the maximum , and that's because they think that maybe the RAND is a bit weak and so they're taking profit on the RAND .

So they're selling dollars and buying RANDs and equally that they think that there are some opportunities in the JSE that aren't available in the international markets . So , just to understand , I think 45% offshore is a great allocation .

You probably don't need more for most people , especially not in a retirement fund , and you know we've covered this two-part or three-part reform of retirement annuities or retirement funds in general . And , just as a quick reminder , you know what that's going to allow you to do and it's probably from September 24 , or , if it gets postponed , maybe March 2025 .

But you are going to be allowed to access some of the money in your retirement annuity if you need it . That will have a tax consequence . So it's not something you want to do as a choice , but you will be able to access retirement funds a bit more easily than you are today .

And so that answers one of the other criticisms of retirement funds that they're locked away until you're 55 .

So I think avoiding retirement annuities because of Regulation 28 or into the future because of access to the money , I think those are becoming less valid reasons and actually the tax break that you get for contributing to a retirement fund makes a lot of sense . It's very valuable and just to understand , while the money stays in the retirement fund .

So if you've got an RA and it's worth a million rand , all of the growth inside the RA whether that growth comes from interest or dividends or rent from property companies or capital growth from shares all of that growth is tax-free . Important point there so all of the growth is tax-free .

The only time you're going to pay tax on taking money is when you take the income out of that . Let's just say you go to retirement and you put the money in a living annuity . You're only going to pay income tax on the portion of money that you draw out .

So , using the example of a million rand again , if you draw out two and a half percent , which is the minimum you're allowed to draw from a living annuity , then you're only paying tax on the 2.5% . So you're going to be paying , let's say , 30% tax on 2.5% of 1 million . It's just not a lot of money .

You might end up paying tax of 1% on the million rand every year . So I don't think drawing a pension one day and paying some income tax on that , that's not a big disincentive for people to contribute to retirement funds when all of the growth has been tax-free and you've had the tax break on the contributions .

So please don't ignore retirement funds or retirement annuity simply because of Regulation 28 . I think there are lots of talking heads out there that will tell you to cash in your RAs and sell South Africa and just invest overseas . But the flexibility and the extra allocation you've got now in retirement funds to offshore markets makes it a very attractive investment .

Does that mean that you should only put money into retirement funds and not into tax-free savings ? I don't think that's a good strategy either . So , just as a reminder , you get no tax deduction for contributing to a tax-free savings account .

So the law allows us to contribute 3,000 Rand a month or 36,000 Rand every year until we reach a lifetime limit of 500,000 rand . So all of those contributions you don't get a tax break .

But all of the money that goes into the tax-free savings is completely free of tax and so it doesn't pay income tax , capital gains tax , dividends , tax , capital gains I think I've said already but any form of tax , I think , just to understand it is really tax-free .

So if you're young and you're starting out , putting some of your money into a tax-free savings account and getting the benefit of that growth over a long period of time makes a lot of sense and , yes , you can then allocate 100% of that to your stock market . And you could go 50% JSE , 50% global or 100% global , it doesn't really matter .

There your choices are wide . But there is nothing stopping you . If you only have , let's say , 3,000 Rand a month to save in totality , there's nothing stopping you putting one , five a month into a tax-free savings and one , five a month into an RA . You can do a combination . It doesn't have to be an either-or scenario . Do a combination .

It doesn't have to be an either or scenario . And then I think , lastly , your future plans are important here . So if you know that you're planning to work in South Africa for the next 10 years and then you plan to move overseas , then it doesn't make sense to put money into an RA .

Then it does make sense to put it into the tax-free savings and let that growth work for you as much as possible , and then , at a point in time , deciding to take that money out when you decide to immigrate , because then there is no tax on the money that you've taken out , if you do it correctly .

So I think it's understanding your situation , it's understanding your tolerance for risk and then remembering that in the world of money there are a lot of options . So you know you don't have to be either or you can do a combination . And certainly you know what you could always do is change your contributions over time .

So you know , if you reach the maximum of $3,000 a month into your tax-free savings , then you could start to kind of increase your RA contributions later . You know you've got a lot of choice . So I think you know your RA contributions later . You've got a lot of choice .

So I think make the sensible decision based on time horizon , what you plan to do with your life and your tolerance for risk , not based on Reg 28 , which nowadays is so wide that it actually doesn't matter anymore . I think I'm going to wrap it up there . Thank you so much for the question , young professional . It was a really good one .

I think it gave me a lot to talk about there and I think a lot of people are holding the same question . So please keep sending them in . Whether you send them as voice note , which is what I already like , or as a message , we'll do our best to answer them .

So 10X your future without the drama . 10x is a licensed FSP .