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An endowment investment is an effective and simple way to save on taxes and executor fees. It’s an investment vehicle that can hold a variety of underlying investment options, including unit trust funds.
Endowments are taxed at a flat rate of 30% for individuals and trusts, which makes them attractive for investors with a marginal tax rate greater than 30%. In addition, executor fees are not paid on transfers to beneficiaries on passing.
Below we outline the structure and benefits of an Endowment:
What is the basic structure of an endowment?
- It has a restricted investment term of a minimum of five years.
- It allows you to make a lump-sum investment and recurring contributions.
- You can choose to invest in a combination of unit trusts and switch between these at any point during the investment period.
- Endowments are regulated by the Long-Term Insurance Act.
What are the tax benefits of investing in an endowment?
- A flat income tax rate of 30%.
- Capital gains are taxed at a flat rate of 12%.
- There is simplified tax administration as tax is recovered within the endowment and taken care of on behalf of the investor. The investor does not need to declare any investment income or growth on their personal income tax returns.
Can I withdraw from my investment?
- An endowment is limited to one withdrawal and one loan within the 5-year restricted term. The withdrawal or loan is limited to the amount of total contributions plus interest at a rate of 5% p.a. If a loan is taken, it does not have to be paid back in the 5-year term but can be added back to the endowment.
- After 5 years, you are no longer in the restriction period and may withdraw any amount, at any time. You may also set up regular monthly withdrawals.
Why are endowments beneficial for estate planning purposes?
- Endowments allow you to nominate beneficiaries which means the money invested will be payable directly to your beneficiaries on your death. Beneficiaries are not required to wait for the estate to be wound up to receive their capital.
- You can also nominate a beneficiary for ownership to inherit the investment and become the new policyholder if you die. No executor’s fees will be charged on the amount paid out, but the capital value will form part of the estate for the calculation of estate duty.
- Endowments provide liquidity to your surviving spouse or children upon death.
Example of saving tax through an endowment:
The example below calculates the income tax and executor’s fees that can be saved on a R10,000,000 investment for an individual with a marginal tax rate of 45%.
Option 1: Structuring your investments in a discretionary account (such as unit trusts, a share portfolio or bank products)
| Investment Amount | R 10,000,000 |
| Investment Growth (Over 5 years) | R 6,000,000 |
| Capital Growth | R 4,000,000 |
| Interest Earned | R 2,000,000 |
| less Tax Payable | -R 1,620,000 |
| Tax on Capital Growth (18% tax) | -R 720,000 |
| Tax on Interest Earned (45% tax) | -R900,000 |
| Total Investment after Tax | R 14,380,000 |
| Executor’s fees on death (at 4.025%) | -R 644,000 |
Option 2: Structuring your investments in an endowment policy
| Investment Amount | R 10,000,000 |
| Investment Growth (Over 5 years) | R 6,000,000 |
| Capital Growth | R 4,000,000 |
| Interest Earned | R 2,000,000 |
| less Tax Payable | -R1,080,000 |
| Tax on Capital Growth (12% tax) | -R480,000 |
| Tax on Interest Earned (30% tax) | -R600,000 |
| Total Investment after Tax | R14,920,000 |
| Executor’s fees on death (at 4.025%) | Nil |
Example outcome:
Structuring one’s investments in an endowment resulted in the investor having an extra R540,000 (after tax) at the end of the 5-year investment period. There would also be a saving in executor’s fees of up to R644,000 if the investor passed away at the end of the 5 year period.
Can you invest in an endowment offshore?
Yes, you can invest directly offshore in an investment vehicle called an “Offshore Wrapper” which has similar tax and estate planning benefits to a local endowment.
One of the additional benefits of using the Offshore Wrapper is that the Capital Gains Tax payable is calculated on the foreign currency growth of the investment and not the Rand depreciation. The example below provides a comparison between using a local endowment to invest in offshore funds in Rands, versus if you invested in the same funds directly offshore in foreign currency (US Dollars).
*Starting R/$ rate R9.73. End R/$ rate R17.36
Example outcome:
By investing in a direct offshore Endowment Wrapper, a tax saving of R3.4m would have been achieved, largely due to CGT not being charged on the depreciation of the Rand, and the endowment CGT rate being only 12% vs 18% for an indirect (asset-swap) discretionary investment.
Conclusion:
An endowment can be an efficient investment vehicle for investors who are concerned about minimising tax and simplifying their estate planning. Best is to incorporate it into your overall investment strategy to ensure the most efficient tax benefits are achieved.
Please speak to one of our Client Portfolio Managers to see if an endowment should be included as part of your long-term financial plan.
