Income tax versus Capital Gains tax

Beware of selling any asset within 3 years of buying it!

In South Africa SARS will deem any asset you sell after 3 years from date of purchase as a capital gain/loss and not as income. Why is this important? Because Capital Gains tax is calculated at 10% for individuals instead of the marginal income tax rate of 40%.

Lets look at an example:
Invest R1mil for 3 years and get 10% per year return. After 3 years you will have R1 331 000. If you sell that asset after 2 years and 360 days, you will have to pay income tax of R132 400. If you wait till the next week to sell, you will pay capital gains tax of R33 100.

You save R99 300 if you wait the few days!

So, before you buy any asset, make sure that you want to keep it for at least 3 years. But then you might want to re-consider the investment, and if we are talking about shares, re-balance your portfolio by taking profits on the performers and buying into the next 3 year potential winners.

So what I am saying is that if we only look at financial investments like shares or unit trusts, do not forget about the investment but do not tinker with it for the first 3 years (even SARS agrees on this).

A word of caution perhaps: The Capital Gains Tax rate in other countries can be up to 50%. It will be very easy for SARS to finance the budget shortfall by increasing the current rate of 10%!!!

So, perhaps we should all re-consider our investments and the gains on them every 3 years?!

Update on investments.

You who have equities in South Africa should not expect double digit returns over the next couple of years!

In short the following:

• Inflation is going to kick ass in a couple of years from now.
• That is bad for equities!
• USA will have less of a problem because they can't raise interest rates for a year or two.
• That is good for equities!

So, equities in Developed markets like USA should outperform SA equities over the next couple of years. (also because USA gave you 0% for the last 10 years!!!)

Bottom line
Do not sell SA equities but if you have very little International equity exposure, try to swap some SA for International. This should be done after considering the TAX effect. (Remember, any investment sold 0- 3 years after acquisition will be taxed as INCOME!). This swap should also not be tried if you are not invested on a "platform" offering a range of unit trust funds.

If you have enough international equity exposure for you longer term investments, ride out the equity volatility because Cash after tax will give you even less than equities over longer periods of time.

For longer term investments avoid Bonds, Cash and even property.

UPDATE: The Momentum Protected Index Plan I wrote about in a previous blog, now gives you a capital guarantee on the Top40 shares in South Africa with a 39% after cost participation in growth in that index over a 3 year period. If you have cash to invest for 3 years and do not want to remain in cash but are afraid of losing money on the SA equity market, this might be a good product for you.