NFB FINANCIAL UPDATE

Issue69 August2013

FROM THE DESKCEO’s

Ihave commented recently about the

importance of ensuring that your wealth

manager shows you how to maintain the real

buying power of your portfolio. This is because

longevity, which has become kind of a given, is

indeed a double edged sword. From one point of

view, it lends one more time after retirement to

enjoy with your family, notably children and

grandchildren, but, from another point of view,

exposes you and those responsible for looking after

your well being, to much greater risk. These risks

include running short of money, inflation,

particularly rampant increases in the cost of

suitable medical treatment, and so forth.

In my last editorial I also spoke about the

importance of diversifying both across asset

classes and across geographies. Across

geographies really means going global with one's

money, and, once there, buying things which will

also deliver real returns over time.

I have since been approached by several

clients and have had some interesting discussions

regarding the "How?" of this proposition.

We are all aware of the danger inflation poses

to the "buying power" of portfolios. I guess the

question is how to turn this negative force into our

ally.

One approach we have adopted,

complementing the NFB Model Portfolios which do

this for you, is where we have taken a look at

major local and global stocks. We have sifted

through them with our portfolio specialists and

found some long term choices with good records

of dividend payment and dividend growth. The

same could be said of property investment where

the income, mostly in the form of rentals, escalates

ahead of inflation over time. However, the

property market at present seems a little trickier to

enter. What we next looked at was ten years out.

Taking a look at the dividends these quality

companies pay now, then going back to see what

the share would have cost ten years ago, will give

you a sense of what represents an interesting

opportunity. Generally, if you invest R100 into a

share which enjoys a R3 dividend, the "yield” is 3%.

Assuming this dividend grows over a decade to

R10, you are clearly earning the equivalent of 10%

on your original investment. And you will also enjoy

growth in the share price, although the price will

be pretty volatile, being affected by both the

company's own performance, but also by markets

in general. This amplifies why this is only

appropriate for long term monies!

Compare this to cash where, currently, 4 to 5%

is all you can expect. On which you pay tax. Rates

may very well rise, but this will only be until the

cycle reverses and back down goes the return.

And there is zero chance that the bank will give

you any extra capital when you ask for your

money back!

One has then to compare this with the option

of investing in interest-bearing investments. For the

majority of our clients, straight forward managed

cash investments only make sense either for

money which must remain accessible, or for the "in

case" reserve some of us like to keep handy. For

the rest, the after-tax returns seldom allow real

returns. Most notably, when one draws an income

from investments the net result is even worse. This

would be typical of a retired person.

The graphs we have included spell out the

concept outlined above. The problem highlighted

above with respect to interest-bearing investments

is worsened when you consider the ongoing

growth in dividends seen in the graphs, compared

to the cyclical trend interest rates follow.

Right now we are at a cyclical low, and in the

not too distant future we should see interest rates

firming. This typically happens as a reaction to the

economy growing. It is engineered by the Central

Bank and is intended to slow things a little. The

opposite could then be expected when the

economy slows. The expected reaction will be a

systematic and controlled reduction in rates until

the "cheapness" of money makes it attractive for

borrowing and spending which typically re-

stimulates the economy. Whilst lower rates suits

borrowers, it harms investors' returns. This wavelike

pattern means the investor is unlikely to grow value

over time in cash. Add to this the fact that all that

is given back after you finally redeem the

investment is the same nominal amount you

originally invested, and the risk of holding cash

becomes clear.

The question next asked is: “why don't we all

just put our money in stocks or property and just

wait it out?” Unfortunately, the circumstances of

each of us as investors needs very careful

consideration before this approach is possible.

Differing wealth, needs and factors such as age of

investors, their dependants, taxation issues,

business and career risk and many more need to

be understood before adopting any investment

strategy. The fact remains that many very

successful investors are on record with the fact

that they simply buy stocks with any net cash flow

they receive and live off the dividends. It is pretty

f i n a n c i a l s e r v i c e s g r o u p fortune favours the well advised

Standard BankDate Price Trailing Dividend Dividend P/E

12m Yield Yield ratioDPS (Original

Price)31/12/2002 33.92 1.40 4.1% 4.1% 7.631/12/2003 44.08 1.70 3.9% 5.0% 8.331/12/2004 74.02 1.80 2.4% 5.3% 11.431/12/2005 85.29 3.00 3.5% 8.9% 10.829/12/2006 106.31 3.60 3.4% 10.6% 11.331/12/2007 112.59 4.34 3.9% 12.8% 9.731/12/2008 83.00 3.86 4.7% 11.4% 8.331/12/2009 102.00 3.86 3.8% 11.4% 13.231/12/2010 107.55 3.86 3.6% 11.4% 14.630/12/2011 98.75 4.25 4.3% 12.5% 11.131/12/2012 118.88 4.55 3.8% 13.4% 12.3

Imperial Tobacco (Offshore)Date Price Trailing Dividend Dividend P/E

12m Yield Yield ratioDPS (Original

Price)31/12/2002 918.06 28.72 3.1% 3.1% 25.731/12/2003 957.22 36.55 3.8% 4.0% 18.931/12/2004 1,241.77 43.51 3.5% 4.7% 23.231/12/2005 1,511.53 48.73 3.2% 5.3% 16.029/12/2006 1,749.10 53.95 3.1% 5.9% 16.431/12/2007 2,359.97 60.48 2.6% 6.6% 20.231/12/2008 1,850.00 63.10 3.4% 6.9% 36.631/12/2009 1,960.00 73.00 3.7% 8.0% 29.931/12/2010 1,968.00 84.30 4.3% 9.2% 13.330/12/2011 2,435.00 95.10 3.9% 10.4% 13.731/12/2012 2,373.00 105.60 4.5% 11.5% 34.8

SABMillerDate Price Trailing Dividend Dividend P/E

12m Yield Yield ratioDPS (Original

Price)31/03/2002 78.60 2.69 3.4% 3.4% 17.031/03/2003 49.05 2.14 4.4% 2.7% 22.631/03/2004 72.80 1.94 2.7% 2.5% 21.331/03/2005 98.00 2.40 2.4% 3.0% 12.531/03/2006 121.00 2.72 2.2% 3.5% 18.731/03/2007 159.15 3.70 2.3% 4.7% 19.831/03/2008 177.01 4.49 2.5% 5.7% 16.131/03/2009 141.07 5.34 3.8% 6.8% 11.831/03/2010 214.24 3.72 1.7% 4.7% 24.131/03/2011 242.62 5.51 2.3% 7.0% 23.531/03/2012 307.26 7.06 2.3% 9.0% 15.131/03/2013 485.50 9.10 1.9% 11.6% 25.6

continued on back page...

SOUTH AFRICA

TAXATIONOF INTRUSTSSOUTH AFRICA

The income of a trust can be taxed in

the hands of 3 possible recipients –

the founder or donor, the

beneficiary/ies or the trust itself. The

principal taxing section for trusts is Section

25B which provides that the income of a

trust will be taxed in the hands of the trust

itself or in the hands of the beneficiaries,

provided that the deeming provisions of

section 7 do not apply. Section 7 has the

effect of taxing the income in the hands of

the donor. If section 7 does not apply then

it is possible to take advantage of the

income splitting capabilities of a trust.

The 8th Schedule to the Income Tax

Act sets out a number of Attribution Rules

dealing with the tax treatment of Capital

Gains which effectively attribute the

capital gain to a taxpayer other than the

Trust, i.e. the donor or beneficiary. These

rules are similar to the anti-avoidance

provisions set out in Section 7.

The deeming provisions and attribution

rules applicable to a donor are limited to

the extent of the benefit derived from the

donation (settlement or other disposition).

TAXATIONThe following taxes are relevant:

Normal Tax:

A trust pays tax at 40% of its taxable

income (as defined). Capital gains are

included at an inclusion rate of 66.6% and

taxed at 40% (effective rate of 26.6%). It

does not qualify for any rebates or interest

exemption.

Dividend Tax:

Dividend withholding tax (DWT) of 15% is

applicable to dividends received by a

local trust holding South African listed

shares. The net dividend (after DWT) is

exempt from normal tax.

Transfer Duty:

Transfer duty is payable on the acquisition

of immovable property (after 23/2/2011)

at the same scaled rates as a natural

person or company. The 1st R600k is free;

next R400k at 3%; next R500k at 5% and

thereafter at 8%.

Estate Duty:

A trust is not subject to estate duty (not

regarded as a person in terms of the

Estate Duty Act). There is an exception in

the case of a Bewind Trust, where the

ownership of trust assets has vested in a

beneficiary – such trust assets are subject

to estate duty in the hands of the

deceased estate of such beneficiary.

TYPES OF TRUST

Testamentary Trust:

This a trust formed upon the death of the

testator/testatrix in terms of the Last Will

and Testament of such person.

Inter-Vivos Trust:

This is a trust created during the lifetime of

the founder (settlor/donor). Such a trust is

created by way of contract, known as a

stipulatio alteri, for the benefit of a 3rd

person.

Discretionary Trust:

Ownership and control vests in the

trustees of the trust on behalf of the

beneficiaries. The trustees, in their

discretion, determine what income

and capital the beneficiaries may

receive.

Bewind Trust:

The beneficiaries acquire a vested

right to the assets upon creation of the

trust, but the control and

administration thereof is held by the

trustees.

A from a South AfricanLocal Trust

point of view is subject to the

jurisdiction of the Master of the High

Court, whereas an isInternational Trust

not (formed outside South Africa).

Special Trust – There are two types:� A special trust created solely for the

benefit of a person who suffers from

any mental illness or any serious

physical disability.� A testamentary trust created for the

benefit of a beneficiary who is a

relative of the deceased. In this case

the youngest beneficiary must be

under the age of 18 years of age on

the last day of February (previously 21

years of age).

Tax treatment: A special trust is taxed like

a natural person i.e. sliding scale from 18%

to 40%, but excluding any rebates or

interest exemption. The inclusion rate for

capital gains is 33.3%.

In the case of a trust created for

mental illness or physical disability, the trust

additionally receives an annual exclusion

for CGT of R30,000, a primary residence

exclusion of R2.0m and a personal use

assets exclusion.

ADVANTAGES OF TRUSTS� Estate Freezing

This is the most common perception.

Assets which are expected to grow

substantially in value are either sold to

a trust (for the benefit of the seller and

his family) or acquired by a trust in the

first instance. Any increase in the value

of assets is excluded from such person's

estate for estate duty purposes as the

growth in the value of the assets takes

place in the trust.

There are, however, many other

reasons and advantages in forming a

trust:� Protection against creditors where a

person may be exposed to business

risks and creditors' claims.� Estate skipping mechanism whereby

an inheritance is passed to a trust on

behalf of a beneficiary instead of

directly to the beneficiary. This has the

benefit of avoiding any further estate

duty on such assets, but also acts as an

effective planning mechanism for

future generations, protection of heir

from the consequences of a marriage

break-up, business risks and creditors'

claims.� Allows for efficient succession where

assets are held in trust, there is no

impact (in the form of estate duty,

delays in administering an estate etc.)

on the death of the original donor of

the asset or on the death of any one of

the beneficiaries of the trust. The asset

continues unimpeded for the use and

enjoyment by the remaining

beneficiaries.� A trust can be used to achieve the

same benefits as a usufruct without

necessarily creating any estate duty

implications on the death of the person

enjoying the benefit (usufructuary).

Whilst trusts remain a rather topical issue, it is useful to recap

their current tax treatment and look at current

developments. By Philip Shapiro.

TAXATIONOF INTRUSTS

� Trusts can be used to hold assets, such

as farming property, which are

incapable of sub-division in terms of

the Agricultural Land Act, receive lump

sums from Retirement Funds for the

benefit of minor beneficiaries, splitting

of income amongst beneficiaries,

preserving family assets over time,

looking after the founder's family after

his death, maintaining a spouse or

child after a divorce.

To achieve the above benefits the

founder of a trust has to relinquish

ownership and control of his assets. If this is

not done properly then Section 3(3)(d) of

the Estate Duty Act may be applied which

deems property of the deceased to

include any property which he was

competent to dispose of for his own

benefit and such property will be included

in his estate at market value thereof at

date of death (notwithstanding that it

may be housed within a trust).

The issue of control, or lack thereof,

over assets to be placed in a trust has

often been the prime dilemma faced by

potential founders of trusts.

BUDGET SPEECH 2013In his budget speech this year the Minister

noted various measures proposed to

protect the tax base and limit the scope

for tax leakage and avoidance, stating

that the taxation of trusts will come under

review to control abuse.

This was outlined in the Budget Review

2013, namely:

To curtail tax avoidance associated with

trusts, government is proposing several

legislative measures during 2013/14.

Certain aspects of local and offshore trusts

have long been a problem for global tax

enforcement due to their flexibility and

flow-through nature. Also of concern is the

use of trusts to avoid estate duty, which

will be reviewed. The proposals will not

apply to trusts established to attend to the

legitimate needs of minor children and

people with disabilities.

The proposal dealing with discretionary

trusts stated that such trusts should no

longer act as flow-through vehicles.

Taxable income and loss (including capital

gains and losses) should be fully

calculated at trust level with distributions

acting as deductible payments to the

extent of current taxable income.

Beneficiaries will be eligible to receive tax-

free distributions, except where they give

rise to deductible payments (which will be

included as ordinary revenue).� The proposals also dealt with Trading

Trusts (on a similar basis) and the

treatment of distributions from offshore

foundations (as ordinary revenue).

The reference to Offshore Foundation is not that

common and indications are that these foundations

are not that widely used in South Africa. What is a

Foundation? According to a definition by John

Goldsworth, founding editor of Trusts and Trustee, a

“Private Foundation" is an independent self-

governing legal entity, set up and registered or

recorded by an official body within the jurisdiction of

where it is set up, in order to hold an endowment

provided by the Founder and/or others for a

particular purpose for the benefit of Beneficiaries

and which usually excludes the ability to engage

directly in commercial operations, and which exists

without shares or other participation."

What abuse was the minister referring to in

his budget speech?

The application of the conduit pipe

principle ('flow through' as described

above), enables income received by a

trust to be rather efficiently dealt with from

a tax point of view. For example, interest

income could be awarded to a non-

resident beneficiary (currently tax free),

rental income and capital gains could be

awarded to beneficiaries (taxed at their

lower tax rates i.e. between 18% to 40%),

whilst dividend income could be awarded

(tax exempt) to the donor (founder) or

utilised to repay any loan account which

the donor may have had.

In this perhaps extreme example,

instead of taxing the trust at 40% on the

interest and rental income, and including

66.6% of capital gains taxed at 40% or an

effective 26.6%, by vesting it in individual

beneficiaries there is zero tax on interest

awarded to non-resident beneficiaries

(see note), capital gains are included at

33.3% and taxed at between 18% - 40%,

(depending on the beneficiaries individual

tax rate) and tax rebates, individual

interest exemption and annual exclusion,

where applicable, reduce the taxable

amounts even further.

Note: From 1 July 2013 a withholding tax of 15% will

be applied to interest paid to non-residents.

The proposed changes seek to tax

beneficiaries on any taxable income

distributed to them by a Trust (R170,000 or

part thereof in the above illustration) at

their individual rates of between 18% - 40%

(no interest exemption, no annual

exclusion, no reduced inclusion rate for

CGT).

Meeting between Treasury, SARS and

Various Professional Bodies

FISA recently reported back to its

members that a meeting was held on 14th

June 2013 with representatives of the

National Treasury and the Commissioner:

South African Revenue Service attended

by various professional bodies including

representatives of the Fiduciary Institute of

Southern Africa (FISA), to understand their

intentions regarding trusts and the effects

of the proposals in the budget.

The meeting was exploratory with no

preconceived ideas, nor were they

intransigent on the tax proposals. They

used the meeting to gather information

from delegates and not to put forward

any proposals or solutions.

National Treasury indicated that no tax

changes regarding trusts have been

finalised and that any amendments will

first be discussed in depth (via discussion

paper released for comment), but that it is

unlikely to happen in the short term.

Note: In the Media Release issued by SARS

on 4 July 2013 relating to the Draft

Taxation Laws Amendment Bill published

for public comment, it was noted that Trust

reforms (amongst certain other tax

proposals) would be dealt with later in the

year or as part of next year's process.

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Philip Shapiro, ,CA (SA) CFP®

Director - NFB Gauteng

Income of Trust conduited to beneficiaries

INFORMATION GIVEN

(assumed)

Calculate Taxable

Income of Trust

CONDUIT

Beneficiary 1

CONDUIT

Beneficiary 2

CONDUIT

Beneficiary 3

Income earned by Trust:

Rent R50,000

Interest R20,000

Dividends 100,000

Gross Income

R50,000

R20,000

R100,000

R25,000 R25,000 R20,000

R170,000 R25,000 R25,000 R20,000

Interest exemption (individual)

Dividends

Exempt income

-R100,000

-R20,000

R70,000 R25,000 R25,000 Nil

Capital Gain – R150,150

Inclusion rate – 66.6%

Inclusion rate – 33.3%

Annual exemption

Capital Gain (taxable)

R100,000

R50,000

-R30,000

Taxable Income R170,000 R45,000 R25,000 Nil

Below threshhold Below threshhold

Table 1: (Flow-Illustration of Taxable Income of Trust Vs. Application of Conduit Principle

Through):

“Rainy day” Savings

A licensed inancial ervices roviderF S P

Johannesburg Office:

NFB House 108 Albertyn Avenue6Wierda Valley 219 ,

P O Box 32462 Braamfontein 2017,Tel: (011) 895-8000 Fax: (011) 784-8831

E-mail: nfb@nfb.co.zanfbfinancialservicesgroup.co.zaWeb: www.

East London Office:

NFB House 42 Beach RoadNahoon East London 5241,P O Box 8132 Nahoon 5210,

Tel: (043) 735-2000 Fax: (043) 735-2001info elE-mail: @nfb .co.za

ecWeb: www.nfb .co.za

Port Elizabeth Office:

110 Park Drive Central Port Elizabeth 6001,P O Box 12018 Centrahil 6001,

Tel: (041) 582-3990 Fax: (041) 586-0053info peE-mail: @nfb .co.za

ecWeb: www.nfb .co.za

According to the Cambridge

dictionary of idioms: “to save for

a rainy day” is to keep

something, esp. money, for a

time in the future, when it might be

needed.

That need may be retirement, it may

be your first house, medical bills, education

etc.

Savings, no matter how difficult to

achieve, are essential. Not only in the form

of retirement saving vehicles, such as

retirement annuities, but also in other forms

of savings, such as bank call accounts and

unit trusts.

The downside of placing all savings into

a retirement annuity is that you are not

able to access the funds should the need

arise. One therefore needs to diversify into

more liquid “rainy day” investments to

allow for some flexibility and access to

capital.

The trick is to turn your savings in the

short term into investments over the longer

term, but still have access to the funds in

the event that it is required. A unit trust

portfolio offers you the opportunity to invest

in riskier assets for long term growth, but

also allows one to diversify into less risky

assets such as cash and bonds.

The fear that most individuals have

when placing sums of money into the

markets via a unit trust or other investment

is market volatility. It is therefore important

that, should you decide to put money

away, that you give yourself an investment

time horizon of at least 3-5 years and that

the underlying portfolio is suited to your

appetite for risk. No one can forecast those

“rainy days”, but at least the unit trust

platform will allow you the access to the

funds.

Markets will move up and down and

you will see your investment fluctuate

accordingly. The key is to continue to

persevere through this, as over time these

fluctuations become more smoothed and

you should experience capital growth that

will keep the flood waters of inflation at

bay.

Remember your investment grows as

you earn returns today on the returns you

earned yesterday on the returns that you

earned the day before, over and above

the extra amounts you contribute. This

compounding effect becomes more and

more attractive and your “rainy day”

savings start becoming proper “sunny sky”

investments.

The key ingredients for reapingrewards are discipline, time andpatience:Discipline: instead of purchasing a new car

with a salary increase you should put that

extra into savings. Try and put a

percentage of your salary away each

month. The unit trust environment allows for

debit orders which assist in creating a

regular disciplined investment strategy.

Time: investing the funds for as long a

period as possible and not drawing out in

times of profit or loss.

Patience: allowing the markets to run

their course and not get impatient when

things are not going as you would have

wanted or expected. Remember that even

when there are dark clouds the sun is still

shining.

It is ideal to start saving early in life; this

will give you longer to save and if you start

from, say, your first pay cheque, it will

become a habit. If you are used to putting

that money away every month then you

will tend not to spend it as it comes into

your account; essentially you write that

money off before you take on extra

expenditures. It is important to remember

that you can't get back time once you

have spent it.

"Life isn't about waiting for the storm to

pass; it's about learning to dance in the

rain." ~ Vivian Greene

“Rainy day” Savings

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Nicole Boucher

Trainee Paraplanner - NFB East London

near impossible or perhaps downright risky

to adopt this approach on a Big Bang

approach at any given moment.

Of very real importance, however, is

the careful consideration of the concept

and the gradual adoption of the approach

in portfolios. This can also be readily

adopted where the investment is done as

an ongoing contribution, either monthly or

at a different but regular frequency. In

mature portfolios, it probably makes sense

to split the portfolio into that part which

needs safety in order to deliver on income

requirements and, separating this first part

from that part with which to consider this

strategy.

Historically we have achieved these

joint needs through blending Model

Portfolios or Fund of Funds. These are risk-

profiled to suit investor's income, growth

and risk needs and tolerances. They remain

very effective tools as they blend research,

keen pricing and active management. A

further consideration is timing the market. It

is clearly sensible to enter the market when

value is on the table. Getting this right is not

easy. The market exists and functions

because of buyers and sellers having

differing views. Whilst it cannot be denied

that getting in cheaply makes sense, in the

long run, realizing the importance of real

returns and implementing such a strategy is

vital in ensuring positive investment

outcomes.

In conclusion, making "riskier"

investments is not easy, especially when

you have always avoided them. People

are way more averse to losing capital, than

they are scared of missing out on a gain.

But, on reflection, I trust you will agree that

this is worth serious consideration.

Mike Estment BA, CFP®

CEO - NFB Financial Services Group

FROM THE DESKCEO’s

According to the Cambridge dictionary of idioms: “to save for arainy day” is to keep something, esp. money, for a time in the

future, when it might be needed. By .Nicole Boucher

...continued from the front page.

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