By Alastair Morphet (DLA Cliffe Dekker Hofmeyr Tax Alert)
Executive summary (SAIT Technical)
Alastair Morphet, tax director at DLA Cliffe Dekker Hofmeyr Tax Alert, discusses National Treasury's Fifth Paper concerning the restructuring of retirement provision in the country by providing tax incentives. The paper indicates that employers see the need to provide retirement funds. The tax regime is very complex and it would be beneficial to streamline the system.
The Paper includes a lengthy discussion in the Paper dealing with defined benefit schemes, but these are of limited significance in the South African market today, as most employers, in order to avoid the accounting issues, have moved their employees towards defined contribution funds.
The Fifth Paper (Paper) in Treasury's Discussion Documents concerning the restructuring of retirement provision in the country deals with tax incentives for retirement savings.
This paper starts from the presumption that there is no evidence that retirement fund contributions need greater tax deduction limits in order to encourage retirement provision. The fundamental issue that comes out of Treasury's research is that employers see the need to provide retirement funds and this element of the system seems to work well. The authors of the Paper are quite correct that the tax regime is very complex and it would be advantageous to streamline the system. One of the policy drivers is that the system permits higher income employees to make much greater tax exempt contributions than Treasury see as necessary to maintain a reasonable standard of retirement. This also enables employees to postpone tax by diverting amounts of income to pension or provident funds which will be taxed later after the retirement date.
The key capping provisions that were set out in the 2012 budget are very much endorsed in the report – that employees should be permitted a deduction in respect of employer and employee contributions to all types of retirement fund equal to 22,5% of the greater of employment or taxable income subject to a cap of R250 000 and in respect of employees who are aged 45 and above that number would be 27,5% of employment or taxable income capped at R300 000. The minimum monetary deduction of R20 000 would apply to allow low income earners to contribute in excess of the above percentage limits. The Paper proposes that this tax regime should be effective from 1 March 2014.
The Paper discusses the scenario where an employer provides employees with risk benefits by purchasing insurance policies outside of the retirement fund (so called unapproved risk benefits) as against the position of arranging such benefits through the retirement fund (approved risk benefits). (For those readers interested the table looking at the efficiency of approved versus unapproved arrangements is set out in Table 7 on page 22 of the Paper). The important part in this regard is the move to tax the contributions to a retirement fund on the basis of a fringe benefit allocated to employees, and permit a deduction in respect of these contributions, to try and retain the tax efficiency of providing approved as opposed to unapproved risk benefits.
But it is this logic, which is driving what I think is probably the most important policy aspect of the Paper, to move away from allowing the present position where an employee cannot get a deduction in respect of contributions made to a provident fund. In other words, Treasury would like to only provide for a tax deduction on contributions where pension fund and retirement annuity fund holders have to annuitise two thirds of their retirement benefits when they retire, and not allow the position where a provident fund member can take a full lump sum. But the outcome of this is that Treasury will be looking for a uniform retirement contribution model so that provident funds get brought into the same tax structure (allowing a deduction for contribution by employers; taxed as a fringe benefit subject to the capped deduction in the hands of the employee) as the quid pro quo for taking away the provident fund's ability to give a total lump sum at retirement.
There is a lengthy discussion in the Paper dealing with defined benefit schemes, but these are of limited significance in the South African market today, as most employers, in order to avoid the accounting issues, have moved their employees towards defined contribution funds. Furthermore, the Treasury would like to simplify the provision of retirement income to not be based on 'taxable income' as defined but to move towards being based purely on the definition of 'remuneration'.