When they make sense, and when they don’t
WHENEVER ONE makes any financial decision, there are many factors that need to take into account. Tax is one such factor. That said, many people have such a visceral dislike for paying tax that this one factor becomes all-consuming.
While it certainly makes sense to take tax into account in some cases, there’s other instances where the best decision for tax purposes does not always make financial sense. As with all decisions of this nature, it’s worthwhile engaging a tax practitioner to crunch the numbers for you.
An example where over-reliance on the tax aspect will end up costing you money
Back in my corporate days, I engaged in numerous conversations over when it would be the best time to replace one’s car if they were in receipt of a travelling allowance. The logical facto (for me at least) would be the point at which the cost of keeping the car exceed the cost of replacing it.
Some would argue that there is an optimal mileage at which a car should be replaced as a matter of course. For many years, that point would be 100 000 kilometres.
While this mileage historically represented the point at which the maintenance plan (which came with the car) would expire, modern vehicles can easily do far greater distances—and in many cases, the maintenance plan can be extended, often at a surprisingly reasonable cost.
However, I would often hear colleagues say that they needed to replace the car “for tax purposes”.
This argument would be based on the premise that the old car was now paid off and fully-depreciated, and replacing it would therefore create a tax deduction from the interest on the new loan, as well as being able to claim a wear and test allowance.
In isolation, this made no sense whatsoever. If you fall into the maximum marginal tax bracket (i.e. 45%), what you are doing is effectively spending R1 in order to save yourself 45 cents!
Granted, if you need to replace the car for other reasons (i.e. the cost of keeping it running reliably is becoming prohibitive), then of course it makes sense to look for the most tax-efficient way of doing so. However, making the tax aspect the sole determine will almost certainly leave you worse-off.
An example where considering the tax aspect will put you in a better position
This month’s tax article on Section 12J investments is a prime example of a loss-making investment having been turned into a profitable one, purely because the Section 12J wrapper was used rather than another vehicle that would need to be funded.
However, it’s important to crunch the numbers in each case, since the final number will depend on the extent to which the investment makes a loss (or a profit as the case may be).
Another “no-brainer” (assuming that you haven’t yet exhausted the available allowances) is to consider the Tax-Free Savings Account (TFSA) wrapper, or a retirement fund (whether your employer-provided fund or a retirement annuity (RA).
TFASs attract no tax whatsoever (unless you exceed the annual or lifetime contribution limits), whereas an RA allows you to claim a tax benefit at your marginal rate. Granted, you will end up paying tax on the eventual annuity, but since most people move into lower tax brackets once they retire, an RA is a great way to let SARS boost your retirement pot.
Steven Jones is a retired tax practitioner and member of the South African Institute of Professional Accountants, and the editor of Personal Finance and Tax Breaks.
