Am I the only one who dislikes Tax Free Savings Accounts (TFSA) and all the hype that goes with them?
Let’s take a step back before getting all excited about TFSA’s. They were introduced (by Government) to encourage non-savers to save and unfortunately, Continue reading The great Tax Free Savings Account con!
I get a lot of spam email but I really hate it when I receive unsolicited offers to invest from insurance companies. Today I received an email from Old Mutual offering to save me money with their Tax-Free Savings Account (TFSA). Apparently, you can start saving with as little as R170 per month, pay no tax on the investment and withdraw the funds at any stage although it is advisable to stay invested for at least 3-5 years.
So let’s take a closer look at this offering from OM.
One of the most important things to consider is the fees and costs of a product – there is no point being able to save when a significant portion of your investment will be gobbled up by fees. So what are the costs on the OM TFSA?
“An administration charge of 0.75% per year of your fund value will be charged. This will be deducted at the end of every month. If you do not have a regular investment set up on any of your Old Mutual Invest Plans, or if your regular investment is cancelled, the administration charge will be a minimum of R20.00 per month. The administration charge can be reduced with our Investment Maximisers.
Asset management fees are deducted by the fund managers of the underlying investment funds which you choose. The amount of the asset management fees will depend on the funds you choose.
If your regular investment is less than R350, an investment charge of 5% will apply to each regular investment.”
This is taken from their website (my highlighting)! If you save “from as little as R170 pm” you are going to lose 5% of each contribution you make. So over a year you would have invested R2040 but would lose R102 of this in fees. In addition to this you are also going to pay an annual admin fee of 0.75% and then the fund fee on top of that.
Reading the fine print more closely also reveals that if you invest less than R350 pm then you can only invest in the OM Moderate Balanced Fund. Although relatively new, the fund has a poor track record and also has an annual fee of over 2%. You certainly will make a small fortune if you use this product.
While the OM TFSA might make some sense if you plan to invest the maximum each year, it certainly does not make sense to me if you are investing less than R350 pm. If this is the case then stay away from the OM TFSA.
There are many better options out there with similar low investment amounts but before you invest in any of them, make sure that you understand all the fees that will apply.
There seems to be quite a bit of activity around the new TFSA accounts and yet it seems to be by all the “wrong” people. By this I mean that the people who seem to be getting excited are not the actual intended beneficiaries…we seem to be forgetting that the TFSA accounts are intended to encourage “non-savers” to save. I’ve thought about it quite a bit and perhaps there is scope for more creativity on this whole thing?
National Treasury seems hell-bent on not being seen to favour the wealthy in the country – why else would they cap the TFSA at R30k pa or put a proposed cap on retirement contributions? They need to rememeber that the wealthy pay the tax in the country and need to be encouraged to invest in SA just as much as anyone else does…
Some of the problems with the TFSA account being aimed at people who are not currently saving is that they are over-indebted, they dont have the funds to save and they are traditionally unreliable when it comes to honouring debit order commitments. These factors all add to the costs of doing business in this sector.
So what about a system where the “wealthy” use their allowance to invest a portion into someone who has not yet been saving’s account? We could to this by having a significantly increased annual allowance – such as R200k but where this can only be attained when the investor allocates an amount (say 5%?) to someone who is currently not saving.
I imagine something like me putting R100k per annum into a TFSA but where 5% of this is then allocated to a “previously disadvantaged saver” such as my domestic worker or her children’s account. I would happily pay this to get the advantage of tax-free growth as well as to try to “redistribute” some of the wealth in SA. For example, when I invest my R100k – R95k of this would go into my account and R5k would go into my domestic worker’s children’s fund (for example). There would obviously need to be conditions put in place to prevent the abuse of the system but with something like this we would all benefit. So how about it, surely we can come up with something that makes it better for all?
I wrote the piece below towards the end of Feb just after the regulation around TFSA’s was announced* and at the time that OM (life) announced the launch of their offering. I took the information directly from their website and then got contacted by someone from OM about my information being incorrect…my response to this is that one of the main criteria of the TFSA is that “products qualifying as tax free savings and investments should be simple to understand, transparent in their disclosure and suitable for the majority of individuals making use of such savings and investment products”.
I dont want to pick a fight with OM but my challenge to them is that their products (and those of some other providers) are not sticking to the letter or spirit of the law by being simple and transparent. If I, as a “so-called sophisticated investor” struggled to find and understand the product information, then how is the person at whom the product aimed going to get it right?
The reality is that in order to make the product accessible to the “yet-to-save”and also profitable for the company, either the fees need to be “high” or the minimum amount needs to be high. In trying to develop a product for the mass market while at the same time trying to make it profitable, it is my opinion that the TFSA offering has got too complicated.
Whilst many have heralded the introduction of the TFSA as a great thing, what they are also forgetting is that the TFSA is not aimed at them – it is intended to encourage non-savers to save. One of the real challenges that emerges from the introduction of the TFSA’s is that as much as government want people to save and invest, it is not profitable business to deal with some sectors of clients. Some of the problems are as follows:
- Bank fees in SA (for debit orders and rejected debit orders) are far too high
- Smaller debit order clients tend to default too frequently
- The combination of the above 2 factors makes the cost of providing products for the “lower end of the market” too expensive.
Perhaps rather than trying to be all things to all people, what OM (and others) should do is set a minimum investment amount at R1000 pm (or whatever the level is that makes the investment profitable) and then when National Treasury gets all heated up about this, perhaps they should point out the reasons that make this business unprofitable – such as high bank fees and uneducated clients.
Or perhaps there is scope for more creativity on this whole thing? National Treasury seems hell-bent on not been seen to favour the wealthy in the country – why else would they cap the TFSA at R30k pa or put a proposed cap on retirement contributions? They need to rememeber that the wealthy pay the tax in the country and need to be encouraged to invest in SA just as much as anyone else does…
So what about a system where there is a significantly increased annuall allowance – such as R200k but where this can only be attained when the investor allocates an amount (say 5%?) to someone who is currently not saving. I imagine something like me putting R100k per annum into a TFSA but where 5% of this is then allocated to a “previously disadvantaged saver”. I would happily pay this to get the advantage of tax-free growth as well as to try to “redstribute” some of the wealth in SA. For example, when I invest my R100k – R95k of this would go into my account and R5k would go into my domestic worker’s childrens fund (for example). There would obviously need to be conditions put in place to prevent the abuse of the system but with something like this we would all benefit. So how about it, surely we can come up with something that makes it better for all?
*I have since revised the article with this response…
I was recently interviewed on radio about the new tax-free savings accounts (TFSA) that are being introduced on 1 March 2015. Any attempts to encourage savings in a country where household debt levels hover around 80% needs to be applauded and encouraged but as I prepared for the session I found it increasingly difficult to be positive about the accounts. So call me grumpy if you want but I am really not excited about the new accounts.
Clearly government is not aiming at you and me with these accounts but rather at the “poorer people” who don’t save. However, the following needs to be remembered before we get too excited.
- Those that are currently not saving are not saving because they are over-indebted and they don’t have spare cash – we certainly don’t want them borrowing more to invest into these accounts. We need to get debt levels down first!
- Those that are currently not saving cant afford the high minimum premiums that (most) unit trust companies will impose. I have spoken to a few where the minimum debit order will be between R500 and R1000 pm with minimum lump sum amount of R10000 – clearly not aimed at those that are currently not saving. So then we look to the insurers who traditionally have played in the lower premium space and so far I have found only 1 offering with a minimum premium of R300 pm (not too bad) but with a minimum monthly admin fee of R30 – that’s 10%. Low premium business is not profitable (our banking fees are too high).
- Those that are currently not saving will not have any tax issues even if they do start saving. At R30000 per annum they will not be subject to tax on interest nor CGT. There will be some dividend withholding tax but it’s really, really small and any saving on the DWT would be quickly eaten up by the high admin fees above.
- Those that are currently not saving usually don’t buy products – they are sold them. At 30k, the maximum remuneration that an advisor is going to earn would be ±R900 (assuming a max initial fee of 3%). Taking into account all the legislative requirements around FAIS and that most of these advisors will end up giving away ±50% of their commission to their employers an advisor might see ±R450 rand for 2-3 hours work – not to mention all the ongoing admin and service that will be required from dealing with the accounts (not attractive enough in my opinion).
According to the 2014 budget speech, TFSA’s are intended to replace the current tax-free interest exemptions that people enjoy (R23800 pa if you are under 65 and R34500 if you are over 65). We are not sure if the exemption will be removed or just not adjusted each year for inflation so that it effectively becomes worthless over time but the problem is that being able to put in only R30k per year means that anyone who has been living off their interest is going to effectively start paying tax on interest (if the exemptions are removed or not adjusted).
Currently someone over 65 can invest ±R500000 into a money market and earn the interest tax-free. Under the new TFSA they will put R30k into a money market in year 1 and will earn ±R1500 tax free and the balance will then be left in “normal” money market and subject to income tax. This is crazy and is surely not what was intended?
So far, the only real use I can find for the TFSA is for parents to fund their kids’ education with them – my advice is to put the contributions that you were investing into the TFSA – growth is tax free and there will be no CGT when you take it out one day (18 years’ time). The only “catch” is that it will only ever pay out to a bank account in your child’s name – this is not a problem while they are still minors as the parent effectively controls the account but it could be an issue once they turn 18.
I am also of the view that the R30000 annual amount is far too low – government may not be targeting the “wealthy” but any additional saving needs to be encouraged. It is also money that will stay in SA and help to grow the economy. The UK equivalent account (ISA) has an annual allowance of ±R270000 (15000 GBP). Why so low in SA?
The annual cap is also problematic and a simple adjustment could see a more significant uptake of the product: rather than a R30k annual contribution with a R500k life-time cap, the account should rather be a life-time R500k cap. That would mean that anyone who had funds could invest it right now or sooner than the ±17 years it is going to take to reach the cap. Pensioners with cash sitting in a money market could then transfer the funds to the TFSA and then enjoy the tax-free interest or better still could get the benefit of compounded tax-free growth.
So all in all, to me, the TFSA is just like the other government initiatives to encourage saving (Fundisa and RSA Retail Bonds) great in theory but very poor in application. Is anyone at treasury in touch with what actually happens at the coal-face?