Tax-free savings accounts (TFSAs), also referred to as tax-free investments, were introduced by the government 10 years ago, in March 2015, to encourage South Africans to save for the long-term and as a way to supplement their retirement savings.
Like savings in retirement funds, TFSAs enjoy tax-free growth, but your contributions, unlike those to a retirement fund, are not tax-deductible. However, unlike retirement funds, there are no restrictions on what you can do with the money you have saved.
On its website, the South African Revenue Service explains the conditions under which these products operate, summarised here:
• TFSAs may only be provided by designated banks, long-term insurers, collective investment scheme managers (with certain exceptions), the government, mutual banks, co-operative banks, the South African Postbank, administrative financial services providers and stock brokers.
• You don’t pay tax on interest, dividends or capital gains in these investments.
• Your contributions have an annual limit of R36 000 and a lifetime limit of R500 000. This is not per account but per person, so if you have several accounts, these limits apply to total contributions across all accounts. The limits may be increased in the future at the discretion of the Finance Minister. While the annual limit has increased from R30 000 to R36 000, there has been no increase in the R500 000 lifetime limit since TFSAs were introduced.
• The portion of the annual limit that is unused cannot be carried over to the next tax year.
• If you contribute more than R36 000 in a year, you will be penalised heavily (a tax of 40%) on the excess amount.
• The R500 000 lifetime limit applies only to what you contribute, not to growth. Thus, once you have reached your contribution limit, the investment can continue to grow, reaping the benefits of compounding.
• You can withdraw some or all of the money at any time, but your annual and lifetime limits remain in effect. If, say, you have reached your R500 000 lifetime limit and withdraw your savings, the limit will remain in place, preventing you from investing further.
• You can transfer savings between TFSAs and between providers.
• A parent can invest on behalf of a minor child. Contributions are subject to the child’s annual and lifetime limits.
• TFSAs cannot be used as transactional accounts.
Tax savings
How will the concessions on the three taxes mentioned above help you? Let’s take each in turn:
1. Tax on interest. This applies to returns in interest-bearing investments such as bank deposits, money market funds, bond funds, or to the interest portion of returns in a multi-asset fund. The interest you earn forms part of your taxable income for the year, subject to an annual exclusion of R23 800 for people under 65 years and of R34 500 for people aged 65 and older (2024/25 tax year). If you are under 65 earning, say, 10% interest on your investment (and provided you are not also earning interest on other investments) your capital in the TFSA would need to be greater than R238 000 for this tax benefit to begin to have an effect.
2. Dividends tax. Dividends from equity investments are taxed at 20%, which is withheld from investors. In a TFSA you get the full dividend, which in some equity funds may account for about 3% of your growth per year. The difference in the dividend return, therefore, between the TFSA and a regular fund, all else being equal, would be 3% versus 2.4% (3% minus 20% of 3%).
3. Capital gains tax (CGT). It is in not having to pay CGT that you can potentially make the biggest saving in a TFSA. This would be a TFSA invested primarily in equities (there are no taxable capital gains in interest-bearing instruments). As a simplified example, say you have capital of R500 000 at age 30 and stop contributing but let the investment grow at an annual return of 10% compounding over another 30 years. At age 60, your investment will have grown to almost R10 million, of which R9.5 million will be a capital gain. If you were on the highest marginal tax bracket (at 2024/25 tax rates), you would save an effective 18% of the gain (about R1.7 million), which would otherwise go to the taxman.
