Is your offshore share portfolio a ticking time bomb?

When we take a look at the South African investment environment over the last few years, it’s definitely no secret that we moved up and down more than the wildest of roller coasters. 

The political environment became so hostile that international investors started to lose faith in our financial systems, first resulting in our downgrade to junk status, and now with further downgrades looming. There are countless opinions and forecasts regarding our current situation, which range from the utterly pessimistic to the fairly optimistic. 

There’s so much noise that surrounds us that it becomes easy to lose sight of our long-term goals.  

Short-term disruptions like political uncertainty and market volatility, not to mention the pressure of a shrinking economy, has led investors to seek salvation mainly in offshore investments, a move that may or may not prove to be the best option for the next few years.  

I myself have, on many occasions, highlighted just how easy it has become for South African investors to build and manage an offshore share portfolio. In many ways, it doesn’t have to be more expensive than a local share portfolio anymore, and it can be opened within the same time frame as a local portfolio. 

My focus this week, however, won’t fall on how good or cheap investors’ offshore share portfolios can be, but rather on just how well investors know the underlying structure of these portfolios, especially where inheritance tax is involved. 

I’m sure most investors are well aware of the ins and outs of the South African Estate Duty Act, which states the current rate of 20%. I doubt, however, that as many SA investors are also aware of the implications of its UK counterpart, inheritance tax, and estate tax in the US.

These taxes are levied on the situs (Latin: site) of the assets, even if these assets are owned by a non-resident of the UK or the US. 

UK inheritance tax is levied at a fixed rate of 40% on estates in excess of £325 000, while US estate tax is levied at a maximum rate of 40% for non-residents on estates exceeding $60 000 in value.

Similar to SA rollover relief, the UK offers relief on £650 000 of the estate when the surviving spouse passes away. The US doesn’t offer similar relief to spouses, unless the surviving spouse is a US citizen.

I am no tax expert, but these figures are making it abundantly clear that if you do not do your homework before investing offshore, an offshore share portfolio may end up costing you (and your estate) a lot more in taxes when compared to South African estate duty. 

Without quoting too much from my article in the 9 March edition titled The case for endowments, regarding the capital gains tax (CGT) and income tax benefits of buying shares within an endowment, I would also like to point out the same benefits offered by an offshore endowment as a possible solution to the issue of situs taxes.

Both local and offshore endowments and sinking fund policies are taxed at a fixed effective capital gains tax rate of 12% (compared to the current maximum of 18% for individuals and 36% for trusts), and a fixed income tax rate of 30% (compared to the maximum rate of 45% for both individuals and trusts).

One main benefit of buying shares via an offshore endowment or sinking fund policy, is that the assets held within these policies will still be taxed as part of your South African estate (at a current rate of 20%), but you can be secure in the knowledge that your capital is still invested offshore.

Obviously, the extra layer of costs attached to the policy should also be taken into account in order to determine the full benefit of this type of investment.

Don’t let your offshore investment turn into a ticking time bomb. Do your homework properly before investing offshore. No one cares more about your capital than you do. 

This article originally appeared in the 6 July edition of finweek. Buy and download the magazine here.