Capital Gains Tax, Savings, Inflation and how they impact you
20 August 2014
Posted by: Author: Ben Strauss
Ben Strauss (Cliffe Dekker Hofmeyr)
Consider the following
example: A taxpayer bought shares for R100 000 on 1 June 2004, and sold
them on 1 June 2014. Assume that:
- the inflation
rate during the period the shares were held was 6% per year
- the value of the
shares grew at a (generous) rate of 10% per year compounded;
- the taxpayer has
no other capital gains during the tax year ending 28 February 2015
and has no assessed capital loss; and
- the taxpayer
pays income tax at the highest marginal rate of 40%.
The actual proceeds
in respect of the sale of the shares (at compound annual growth of 10%)
will be R259 374.
The tax payable
(ignoring brokers' charges and the like) will be determined as follows:
However, the actual
return after tax, and taking into account inflation, will be the following:
Put differently, after
taking into account inflation and tax, the annual compounded rate of
return will be 2.72%.
So, in today's money, the
taxman takes an amount equal to about 56% of the actual return!
The cause of this
inequitable result is that the effects of inflation are not taken into
account when determining capital gains tax (CGT) – in other words there is
When CGT was introduced
in 2001, the National Treasury said that indexation was not appropriate
in the light of the "low" inclusion rate of 25%.
However, the inclusion rate was recently increased by one third to
33.3% in the case of individuals (and from 50% to 66.6% in the case of
companies and trusts).
In addition, a taxpayer
is not entitled to set off capital losses against income tax. In other
words, if a person has an assessed income tax loss, the person
must reduce the assessed loss by the capital gain. But if a person is
in an income tax paying position, the person is not allowed to reduce that
position by capital losses – the capital losses can only reduce future
It is submitted that the current CGT system
does not encourage savings in South Africa.
The erstwhile Minister of
Finance, Pravin Gordhan, does not think that the CGT regime is unfair. In
his 2014 Budget Speech, referring to the developments in fiscal
policy during the past two decades he stated: "We have also improved
the fairness of the tax system by taxing residents on their worldwide
income and taxing capital gains."
In the same speech, the
Minister did however announce that legislation would be introduced
to allow for tax-exempt savings accounts this year, to encourage
Draft legislation to this
effect was published on 17 July 2014 in the Draft Taxation Laws
Amendment Bill. Put simply, what is being proposed is that, with
effect from 1 March 2015, persons will be able to contribute R30 000 per
year, and R500 000 in aggregate during a lifetime to a tax free
investment. The income and capital gains realised in respect of the
tax free investment is free of income tax and CGT.
The proposal is a good
one. As the famous economist, Milton Friedman said: "I am in favour
of cutting taxes under any circumstances and for any excuse, for any
reason, whenever it's possible." However, at a rate of R30 000 per
year, it will take approximately 16 years to fill up the R500 000
limit. In 16 years' time R30 000 will be worth about one third in
today's money at an inflation rate of about 6% per year. Once again,
unless indexation is built in, the concession will not add up to much over
It is submitted that the
only way to encourage savings is to give taxpayers a proper return on
their investments by taking into account the ravages of inflation when
determining fiscal policy.
This article first
appeared on cliffedekkerhofmeyr.com.