When your business = Your retirement plan
By their very nature, entrepreneurs are risk takers, and thank goodness for that. They are prepared to plough every last cent of their earnings and savings into their business and go for broke. Sometimes, yes, going broke.
- Cash-in retirement savings to start the business. This is very common when someone leaves a decade or so of a corporate career that an entrepreneur will cash in their pension or provident fund to kick start their business. Despite the tax penalties (that you never get back) it is a very tempting and quick way to get cash.
- Your business = your retirement plan and no other provisions are made. Is this realistic? If the business is small and tied up in the skills of the entrepreneur then this is a disaster looking for a place to happen. There should always be a back-up plan. Run some scenarios with your financial advisor for your minimum monthly needs at retirement – run the debit through payroll so you don’t even miss it, then everything else is a bonus.
- Not making use of Group Retirement or Life funds. Once your company gets over about a dozen people, this becomes a no-brainer. It is way cheaper than taking out the insurance yourself, promotes staff morale and reduces your potential risk if one of them (or you) become disabled while working for you. An umbrella retirement fund usually has low expenses, and because it comes straight off payroll, y u won’t miss it. Make sure the life cover is structured properly so that there is always the option of taking it out in your own name later.
- Over-confidence in investment abilities. Entrepreneurs like to do it themselves and that often includes investment, and usually, that means additional risk. When cash-flow is tight it is tempting to make your investments “work” for you and this is fraught with danger if you don’t understand the risk/return trade-off, asset allocation and a very good idea of the state of the economy. Money and emotions walk hand in hand, and it’s very difficult to control them both at the same time. Greed and Fear can do ugly things to your investment. If your advisor does nothing else but protect you from yourself, then the money is well spent.
Investing without a goal or objective
I think most of us switch off when we are admonished by the media, advisors and especially government to ‘save, save, save’.Ironically, if we really all did it, Western economies would be in a whole lot of trouble. Up to 70% of the GDP in the ‘developed’ world is made up of consumer consumption. In the East, governments like China are trying like mad to stop the populace saving so much and start spending. We all know that there is a ticking time bomb out there, especially in countries like South Africa where there is no real ‘pension’ or welfare safety net to speak of. Instant gratification is rife, from the ultra-wealthy to the poor, facilitated by easy credit. Retirement seems like a long way off, and we have plenty of time to catch up (or feel it is too late). We might mistakenly believe that the thousands we’re ploughing into our mortgage is actually an investment (don’t believe me, read HERE).
Part of the problem is that investment is often compulsory – it is deducted from the salary and it is the price of accepting the job. In effect, it becomes a grudge saving. It is little wonder then that 90% of provident and pension funds are cashed in when someone moves job. The huge backlash from Cosatu and workers when it became apparent that the government was hell-bent on preserving the retirement funds was to be expected (exacerbated by the misinformation that they would lose those funds altogether). Hopefully compulsory pension and provident preservation will come sometime – the cashing in of compulsory savings like this will result in a welfare time-bomb in the future. The State pension is R1350 a month, not even close to a living wage.
Retirement funding is usually the biggest ‘investment’ we need to make on a monthly basis. Believe it or not, if it is a compulsory deduction they are doing you a favour. A long-term objective is always the hardest for your brain to wrap itself around. Retirement annuities that penalise you for early termination act the same way – but that is entirely incidental. Those penalties are there because they have paid upfront commission to brokers, it has nothing to do with helping you. The one thing retirement annuities get right, that group pension and provident funds don’t, is that you cannot withdraw from it before age 55.
Are Financial Advisors next?
The internet has permeated every facet of our lives, and I barely remember what it was like not to have it. There is a decade old saying that went ‘the internet is a mile long and an inch deep’. No more. It is millions of miles wide and thousands of feet deep. If you want to research a topic you can get lost down a rabbit hole for hours looking into every aspect of the topic, opinions, research, commentary, speculation and often downright nonsense and conspiracy theories. There is just so much information available out there now that a whole industry (Big Data) has grown up round it. The rise of ‘robo-advisors’ and the ‘low-or-no call centre products, made me wonder just how vulnerable the Financial Planning and advice industry is.
The internet hasn’t just changed the way we research and interact in business, it has radically changed all sorts of jobs. Look at car sales – most new car buyers will have done all the research into specs, accessories and price long before they walk into a show-room for a test drive. Even if it is just “what colours does it come in”. The brand decision will be firmly entrenched and it’s highly unlikely that even the slickest salesman can change your mind. You don’t need a salesman to recite all the specs for you anymore. He has one role. To part you from your money and give away as little as possible in the process. Oh, and helping with the paperwork.
House-hunting is going the same way. You don’t have to buy the 2kg Saturday Star (awesome when you have a puppy in the house, believe me) and get your hands covered in ink looking for houses. You can now go online, do a virtual tour of the house, see what other houses in the area have sold for, have a look at the amenities in the area using Google maps, get pre-approval for your bond before you even call for an appointment. If you’re selling your house it is almost as easy to do it yourself, with some guidance from a website – with offer to purchase templates, links to conveyancing attorneys, find the right price, printing of outside boards and instructions to upload pictures and videos onto a site. Estate agents are finding it more difficult to command the 6% commission they got easily in 2005.
It’s not a one trick pony anymore
I don’t think anyone can argue that the cost of medical aid is out of control. A once off, above average annual increase is bad enough but when it happens year after year, and often 4-5% over inflation, the compounded effect becomes a real problem and eats a bigger and bigger chunk of your disposable income. Not only do you have to contend with the increases, but silently, the benefits are also being eroded. The various ‘caps’ on cover don’t keep up with the increases, the ‘medical aid rate’ that used to be defined across the board, now differs from medical aid to medical aid and at 100% barely covers the cost of an entry level Cuban import. Many doctors now charge 500%, and this continues to climb. You’re stuck between a rock and a hard place – a bad event like an accident or heart attack can cost hundreds of thousands and if you don’t at least have a hospital plan, you have 2 choices. Find the money – or go into the public health system, and hope you come out.
Before the November deadline comes to change your plan, why not do a medical risk audit and see what combination you need…
- Ask your medical aid for a printout of your claims over the last 2 years, and have a careful look. Are you getting bang for your buck or subsidising several dozen hypochondriacs? Is there one member of the family that is using the lion’s share of the medical aid – can anything be done about it? When did your Medical Savings Account run out in he year? On average, how much did the medical aid pay out per provider and how much did you have to pay in excess?
- How much are you paying for the loyalty card, and is it worth it? 85% of people with a gym contract don’t use it – or if they do it’s at the absolute minimum required to keep it going. Warning – before you cancel the loyalty card please speak to your financial advisor because it might have implications on your life cover premium. The price increases of the loyalty cards are also above inflation.
- If you’re healthy, is a hospital plan a viable option? Play with the numbers from those statements. Compare the premiums of your existing plan with a plain hospital plan. What were your true expenses, this is the savings plus your out of pocket.
The Davis Tax Committee on Estate Duty recommendations summarised -
The first interim report on Estate Duty published by the Davis Tax Committee (DTC) was published for comment last week and there are some far-reaching proposals. If you’re interested or battling insomnia, the 75 page report is available HERE. This is the third in a line of tax commissions including the 1987 Margo commission and 1997 Katz Commission. It’s no secret that the government is clamouring for more bucks wherever they can find them, and taxing the wealthy would be a populist move. Unfortunately Estate duty only accounts for 0,1% of total tax collections, a mere R1.48bn. Using the Katz commission as a base, the Davis Committee thinks that R10bn would be a nice round number to go for.
Wealth taxes make a tiny contribution to taxes anywhere in the world. The DTC almost exclusively benchmarked South Africa against Europe with zero mention of any other country on earth. I am sure they had their reasons. The Netherland’s wealth tax brings in some 0,7% of total taxes – and that is the sort of number The DTC is going for.
One phrase that is repeated over and over in the report is “Capital Transfer Tax” or CTT – one gets the impression that this is the silver bullet to aspire to ( and to frighten the bejeezus out of fat cats.) Heaven help us. The ‘sophisticated wealth tax’(to quote the DTC) seeks to impose tax periodically on wealth, and not just at death. Being ‘sophisticated’ it is also expensive and difficult to collect, and when it costs more to collect a tax than it garners, sanity would indicate it might just not be a good idea. To quote the DTC, ‘Regrettably, a worldwide phenomenon of Capital Transfer Tax is that they give rise to an unproductive estate planning industry’. God forbid!
Trusts are also under fire, specifically the practice (completely legal and allowable at this point) to use the ‘attribution principle’ for trust income, whereby income can be split and paid out to beneficiaries and be taxed in their personal capacity – often well below the flat 40% in a trust, and there are the allowances that you don’t find in a trust. It was recommended that this change happen in 2015, but it is likely to rear its head in 2016. The ‘deeming provisions’ are also under fire (how income in the trust is taxed when there is an outstanding loan account for an asset).
Foreign trusts are also under fire and it is recommended that ALL distributions ( interest, dividends, capital repayment, income) be treated as income and that criminal charges be brought if interest in foreign trusts is not disclosed.
Not just for the wealthy – you might be surprised
I keep coming across misconceptions around estate planning, and confusion about the Will, and making assumptions can cost your family dearly down the line. So, let’s clarify:
Who needs a will?
Bottom line? Any adult that has accumulated any capital or assets – even if it is car, some household contents, a few little investments or life cover at work. Dying intestate (with no Will) is not smart! Your estate would then be governed by the ‘intestate laws of succession’ and your desires for the estate goes out of the window. If you want a say on what happens to your estate when you die, it must be reduced to writing, signed in front of witnesses and follow some basic guidelines. For example if you die intestate your spouse will get a ‘child’s share’ (or R125,000 whichever is the higher). Any proceeds from the estate for children under the age of 18 will go into the Guardian’s Fund – run by the government. Good luck with that! I have had to help unravel 2 ‘intestate’ estates and it is a nightmare, that is one of the reasons that I offer my clients a free Will, and will do a simple Will for non-clients for R500 and have it to them within 48 hours. Contact me HERE if you’re interested.
When do you need an estate plan?
One of the most enjoyable aspects of what I do is an estate plan, because it is like a puzzle – finding all the bits and pieces and uncovering potential weaknesses. Inevitably I am able to save a client thousands of rand. How? Usually it is simple structuring problems that cost very little or nothing to fix. For example: Incorrect beneficiaries on life policies (they should never be left to the estate), dormant inter-vivos trusts, no valuation documentation on property (for Capital Gains Tax), uncertain ownership of valuables (especially in owner-businesses), lack of liquidity – no freely available cash to pay executors fees, estate duty and the other costs, disorganised estate, spouse vulnerability – accounts frozen if married in community of property. This is when you need an estate plan:
- Once the assets in the estate approach R3m (all the property, investments, personal and group life policies – not as difficult as you think – many life policies today are over R3m) then you need at least a basic estate plan. For example it might make a good idea to have an ‘inter vivos trust’ (literally while you are alive, as opposed to a testamentary trust triggered by a Will).
- If you are a business owner. On your death the shares in the company become part of the estate, however the implications go further than this. Banks often call in all liabilities and security almost immediately. Bank accounts may be frozen making it very difficult to run as a ‘going concern’. An estate plan will address the ‘succession plan’ so that the value in this asset isn’t lost or eroded.
- If you’re married in Community of Property (COP). Remember this is not just the Community of property, but also of loss. On death of one spouse in COP, the entire estate of both spouses is frozen. Executor’s fees are charged on BOTH estates. If the estate doesn’t have sufficient liquidity (readily available cash) to settle fees and duties then property in either estate could be put at risk.
- If you aren’t sure what you have, what the value is, where your investments are and who the beneficiaries are. Just the process of getting the paperwork in order will take away the worry of leaving your estate in a mess.
- If you have rental properties. If these are in your name there could be significant Capital Gains tax implications (because they aren’t your primary residence). An estate plan will estimate the CGT and make suggestions on how to mitigate this.