HARRY JOFFE: The benefits of an offshore endowment policy
More and more South Africans are using their investment allowances - either the R1m single discretionary allowance or the R10m allowance that requires a tax clearance certificate (TCC allowance), or both - to invest offshore.
So, what are some of the advantages of using an offshore endowment policy with a South African insurer?
Ability to nominate a beneficiary
An endowment policy on which a life is insured allows you to nominate a beneficiary, the person to whom the proceeds will be paid on your death. In the offshore world this is a major advantage, as it helps to avoid the problem of probate, the process whereby a foreign estate has to be wound up. This can prove particularly problematic.
For example, assume John dies in SA and has two offshore investments not in an endowment wrapper. One is in the UK and one in Jersey. John's local executor has to engage with two offshore executors to help wind up the foreign portion of the estate.
This can be time-consuming, especially given the fact that the South African master requires an original will, and so do the offshore authorities.
It can also be expensive. In addition, if the offshore amounts are small, it will be difficult to find someone offshore to do the work as it simply won't be worth their time.
However, if John dies, and the two offshore investments are in an endowment wrapper, the nominated beneficiary is simply paid, avoiding the foreign probate or winding-up process. This is obviously much quicker and cheaper.
A foreign endowment with a South African insurer is taxed in terms what is known as the five-fund system. That means the endowment is subject to portfolio tax. The benefits of this to the high net worth investor is that capital gains are taxed at the insurer's rate of 12%, and not the individual's potentially higher rate of 18%. With the large sums involved using the R10m allowance, the R40,000 capital gains rebate that individuals enjoy is not usually that material.
Also, income gains are taxed at the insurer's rate of 30% and not the individual's potentially higher rate of 45%. Again, with the large sums involved, the interest rebate of R23,800 is also not much of an issue.
More important, because all the tax for an offshore endowment with a South African insurer is paid by the insurer in its portfolio, you as the investor don't have to pay any further tax. This makes your tax return much simpler.
Assume, for example, John invests his R10m allowance offshore in 10 different mutual funds, with different providers. At the end of the tax year he will need to report all the foreign dividends, foreign interest earned and any capital gains made. Any tax statements he receives from the offshore providers will be in a foreign currency and will need to be converted to rands for reporting purposes. His tax return will not be simple!
However, if he simply bought an offshore endowment with a South African insurer, even with 10 mutual funds inside that wrapper, his tax return would be much simpler as all the tax would have been paid by the insurer in the portfolio. He therefore does not need to worry about currency conversions and gathering tax statements.
Finally, if you switch units, that triggers capital gains tax (CGT) across both types of wrapper: unit trust and endowment. However, if it is a straight switch, and you receive no actual cash, in a mutual fund you might have a cash-flow problem at the end of the tax year, when you have to pay the CGT. In an endowment, the CGT is still paid (just by the insurer), but the insurer takes it out of your portfolio. That means you do not suffer any cash-flow problems.
But be aware, no investment is perfect, and some offshore endowments have expensive cost structures. It is in your best interest to fully investigate these cost structures in detail before committing to purchase.
If you commit a large lump sum to an offshore investment, an offshore endowment wrapper can offer estate planning and tax advantages. However, be sure to check the costs and seek professional tax advice, as each case is dependent on its own facts. There should not be a "one size fits all" approach.
Joffe is head of legal services at Discovery Life