The Finance Series for Millennials: #1 Building your Financial Foundation

-By Thiart van der Merwe

In this series of articles, we’re giving you the advice you need on how to set yourself up for financial freedom. Our aim is to give you practical steps each month – action points that you can take immediately. Follow these steps over the course of the series and you will be set up for financial wellness.

Just a note: this is not about reinventing the wheel or giving you the inside scoop on the next Naspers, Capitec or Cryptocurrency. Instead we will focus on solid financial planning to ensure that you can retire comfortably, afford that holiday to the Maldives (yes, a villa on the water), secure some capital for a business dream or put money away for your children to get a proper education.

One word you’re going to have to get to grips with if you aren’t already, is SAVINGS. Saving a portion of your salary consistently is the best way to achieve your dreams, unless you’re Elon Musk, then you don’t need to read this.

“Do not save what is left after spending, spend what is left after saving,” – thanks Warren Buffett (one of the wealthiest men in the world).

In our first article we will focus on the most important part of holistic planning: retirement.

 

RETIREMENT

This is a foreign concept to most people, but have you ever wondered who will pay the bills when you are older, need to stop working and formally retire? Do you want your children to look after you; or do you want to enjoy your last year’s free of financial worry; or even spending those days ticking off items on your bucket list?

In South Africa, you are on your own when it comes to retirement. The State pension is a measly R1600 per month! Even if you work for a large company with a pension fund, it is likely that you are not contributing enough to fund your retirement.  In most cases you need to ensure that you look after your own retirement nest egg.

 

WHY WORRY ABOUT RETIREMENT AT 25?

The most common mistake we make when it comes to planning for retirement, is to start too late. “I am still in my 20’s – there is so much time before I retire. Besides, it’s much more important that I pay off my house and car first. Where must I get the money to save as well? “Sound familiar?

A Retirement Annuity (RA) is an investment product specifically designed for the person who does not belong to a company pension/ provident fund. Contributions toward this investment can be deducted from your taxable income (max of 27.5% or R350 000 annually) which means that you will get money back from SARS should you make contributions. SARS sponsors your retirement savings. How awesome is that?

Let’s look at an example. We assume you need R20 000 a month (in today’s money) to live on from the age of 65 until you die.

The table below illustrates what you need to contribute monthly to make that happen – assuming you start at different ages:

The sooner you start, the easier it will be to secure your financial freedom. The longer you delay, the longer you will need to work to make someone else rich.

 

DANGER AHEAD

The single biggest pitfall for those with a pension or provident fund is the ability to take a portion or full amount saved for retirement as a lump sum withdrawal upon resignation.

Picture this scenario:

You resign from your current employer and HR asks whether you want to receive your pension payout in cash or transfer to a preservation fund. It will be heavily taxed if taken in cash, but you are 30 years old and a long way from retirement so you decide to cash out and buy yourself a sweet new ride.

Amount cashed in:          R200 000

After Tax:                         R169 500

Potential Value at 65:     R1, 500,000 (In today’s Money)

Opportunity Lost:            +- R8,500 monthly in your 35 retirement years after the age of 65.

Can I recover:                  Yes, by contributing R1000 every month for the next 35 years.

Your new wheels don’t cost you R169 500. In fact, they cost you R1.5m!

You need to keep your “retirement” hat on and transfer these funds to a preservation fund or retirement annuity tax-free. Allow these assets to grow over your lifetime! You will be thankful when you are old that you took this little piece of advice.

ACTIONS POINTS FOR THE MONTH

If your employer has a pension/ provident fund:

  • Find out if your employer matches your contribution up to a certain percentage. If they do, try and bump yours up to get the full benefit.
  • Find out what you are invested in. Don’t make the mistake of investing too conservatively as you have a 20 – 30 year investment horizon. Risk dissipates over time. You can take on more risk with this investment. Cash might be doing well now but over the long-term shares give a far better return.
  • Calculate the percentage of your income that you contribute. If the total of both yours and your employer’s contributions add up to 15% of your gross income you are doing much better than the average South African. Pat yourself on the back.

If your employer does not have a pension fund:

  • Open a Retirement Annuity
    • Look for a new age retirement annuity with no upfront fees
    • Fees are important in the long run
      • 2% saving in fees could save you R400 000 over the next 30 years on a conservative contribution. Read more here
    • Some people need an adviser so make sure the person is independent and not just selling you one of their products.
  • Set up a monthly payment or debit order – even if you start small, stick to it. The seventh wonder of the world is compound interest (Einstein’s words). You will be amazed what your “small” contribution will be worth after 10 years.

In a world where people are constantly chasing the next best “get-rich-quick” scheme, we leave you with the following quote from economist Paul Samuelson:

 “Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas.”

Foundation Family Wealth now offers a consultation service for young people who are serious about money. Contact thiart@foundationsa.com to find out more.

<Foundation Family Wealth is an Authorised Financial Services Provider>

 

Who will look after my child’s inheritance?

-By Michelle le Roux

This month we are touching on a sensitive subject: ensuring that the inheritance of our minor children is properly covered in our will. To some this simply means that – in the event of our death, there will be enough money for our dependents education and lifestyle needs. Sadly and more often than not, it’s a case of not naming the children (and their inheritance) properly – or worst case, not having a will at all.

There is a difference between custody of the children’s inheritance, and physical custody of the children. The provisions in a will are always considered, but if the will is unclear, a guardian for physical custody is determined by the Commissioner for Child Welfare, or ultimately, the High Court. The inheritance of a minor is a separate issue, and this is administered by the Master of the High Court via the Guardian’s Fund. We are taking a look at the latter today.

WHAT IS THE GUARDIAN’S FUND?

In layman terms, the Guardian’s Fund is a fund that holds the inheritance of a minor child. In addition, this Fund can also take care of monies left to those who are under curatorship, unborn heirs, or people who have been reported and remained missing over a number of years. The intention of the fund is good and it aims to protect funds for those who can’t do it themselves.

THE WORKINGS OF THE FUND FOR MINORS

If the will of the parent or legal guardian does not specifically mention who will be responsible for the administration of the child’s inheritance (or where there is no will), the inheritance will then automatically be given to the Guardian’s Fund to manage.

When the Master receives funds for a child, an account within the Guardian’s Fund is opened in the child’s name, or at least given a reference to the estate where the funds came from (think here of the case where funds are left to an unborn child, who has neither a name nor an ID number until the day he is born). These accounts are well managed from an accounting perspective and audited annually by the Public Investment Commission.

Every account earns interest, compounded monthly. The rate is determined by the Minister of Finance, and is currently set at 9% per annum. Interest is paid from the month the funds are received, up to five years after the funds became claimable. There are no fees or administration costs and funds are managed completely free of charge.

The guardian of the child can claim maintenance from the Fund for school fees, clothes, medical aid, and so forth. This is usually the annual interest on the invested capital, plus a maximum of R250 000 per year from the invested capital.

An account holder (the minor) can claim the invested capital plus accrued interest when he turns 18, or at the age that the testator stipulated in his will (for instance, age 30). Important to note here that interest on invested capital will only accrue to the age of 25.

Interestingly, funds are not always claimed by the account holder because they simply didn’t know it existed.  If funds aren’t claimed within 30 years after it became claimable, the money is forfeited to the State. The Master advertises claimable accounts every year in September in the Government Gazette, but this is not a publication that is frequently read by the man-on-the-street, so it is understandable how this can sometimes fall by the wayside.

THE BIG BAD WOLF?

There is a perception out there that the Guardian’s Fund is nothing short of a black hole, but fortunately this isn’t the case at all. There are very clear regulations pertaining to how the funds are to be administered, and the return on capital isn’t even particularly bad! If your child’s inheritance happens to land in this Fund, it’s not the end of the world.

However, there are two primary problems with the Fund, and good reason why you want to avoid it.

Firstly, the loss of control on how the funds are managed. In addition, accessing the funds and receiving maintenance payments requires an application form for every single withdrawal, accompanied by quotations and supporting documents.  One can expect that claiming the invested capital will eventually be a hassle for the account holder too.

Secondly, the Fund can’t hold any assets other than cash, so whatever is bequeathed to the minor (or inherited according to Intestate rules) must be sold. This is not ideal for various reasons, such as seeing valuable assets converted to cold cash, or perhaps having to let go of a family heirloom.

Of all the different aspects of our lives and estate planning, anything that relates to our minor children demands particular care. Be very clear with your bequests in your will. Rather write too much than too little, and make sure your intention is clear and unambiguous:

  • use your children’s full names and ID-numbers;
  • be specific about what assets are left to them (proper descriptions and account numbers);
  • identify the person or institution who will look after these assets before they are old enough to do it themselves;
  • make sure your bequests are practically enforceable.

We want to stress once again that this is just another important reason why a will should be drawn up by a professional estate planner or fiduciary specialist. Get in touch with us and make sure your children are taken care of!

<Foundation Family Wealth is an Authorised Financial Services Provider>

Words worth Reading

We found this very practical article, packed with scientific research on ageing well. We especially love their advice on working: love your job. ‘That’s not just a feel-good platitude; it’s medical science.’

Read the article here.

What’s the Hype about Section 12J investments?

-By Elke Zeki

We’ve had a few questions from clients on section 12J investments and whether it’s something that should be considered.  Some advisors and tax consultants seem to be selling this as the next best thing.

WHAT IS A SECTION 12J INVESTMENT?

Section 12J refers to a section in the Income Tax Act, which intends to stimulate investments in venture capital by allowing tax deductions. In a nutshell, it’s an investment structure that provides very attractive tax benefits, as any amount invested in such a structure is 100% tax deductible. You can add all forms of taxable income:  Capital gains, salary, bonus or interest earned to your taxable income from which the investment amount can be deducted.

Although this sounds wonderful, the investment structure comes with pitfalls and complications. We highlight a few below:

  • 12J investment structures must invest in SARS approved, venture capital companies.
  • Venture capital investments are risky. Venture capital provides new or expanding businesses with funding in return for owning a piece of the company and its future profits. These are usually unknown start-up companies.
  • You are locked in for a minimum of five years.
  • You are liable for Capital Gains Tax (18%) on the full investment on exit OR if distributions are made during the five-year period you pay Dividend Withholding Tax (20%) on the full distribution.

HOW IT WORKS

Source: Ora 670 Ventures

Not every investor who wants to save tax should use these investments.

IS THIS FOR YOU?

Section 12J investments make sense if:

  • You have already made full use of tax deductions offered by retirement investments and tax-free savings accounts;
  • You are an experienced investor who understands the risks of venture capital funds;
  • You have a long-time horizon;
  • Your already have sufficient diversification and investments offshore;
  • You have triggered a large capital gain due to the sale or exit of a business or asset;
  • You have identified an experienced manager in this very technical and specialized field.

We recommend seeking independent financial advice before making an investment into a 12J structure.  We have analysed many Section 12J investments and can help you to decide whether it is suitable for you.

< Foundation Family Wealth is an Authorised Financial Services Provider>