R450,000 tax-free gift for South Africans

The R10,000 increase to the annual contribution limits on tax-free savings accounts (TFSA) in South Africa can boost returns by nearly half a million rand over 40 years. 

This is despite the lifetime contribution limit remaining unchanged at R500,000, with additional compounding doing the heavy lifting as investors can now hit the lifetime limit earlier. 

As a result, Finance Minister Enoch Godongwana’s decision to raise the annual contribution limit for TFSAs in South Africa can significantly improve retirement outcomes for South Africans. 

TFSAs were first introduced on 1 March 2015 as a way for the state to encourage household savings for retirement and reduce reliance on government handouts for income post-retirement. 

While the measure has been relatively effective, asset managers and individuals have called for changes to the annual and lifetime contribution limits, as they have remained the same since inception. 

In his most recent Budget Speech, Godongwana finally heeded this call, raising the annual limit for tax-free investments in South Africa. 

“Madam Speaker, our national savings and investment rate is far below the levels needed to truly create generational wealth and support local investment in the economy,” Godongwana said.

Now, South Africans are afforded a tax-free investment limit of up to R46,000 per annum, up from R36,000 previously. 

However, the lifetime contribution remained unchanged to the furore of many individual investors and asset managers. They argue this limits long-term wealth creation. 

“Old Mutual welcomes the Minister of Finance’s announcement in today’s budget that the tax-free annual investment limit has been increased from R36,000 to R46,000,” Old Mutual education head John Manyike said. 

The increase has been coupled with an increase in the retirement fund deduction cap to R430,000 to further encourage retirement saving. 

“We have been calling for exactly this kind of step so that these vehicles can play a more meaningful role in long-term savings and retirement planning,” Manyike said.  

“The previous limits constrained the opportunity for tax-efficient growth over time, particularly for those who are serious about building sustainable retirement outcomes.”

One area of concern for Manyike is the failure to increase the R500,000 lifetime limit on contributions to TFSAs, which may constrain investment returns. 

While many investors will not reach this cap for many years, Manyike urged the National Treasury to increase it before it begins to negatively impact individuals. 

R450,000 boost

While the R10,000 increase may seem small without a lifetime limit increase, it can have a significant impact on long-term financial outcomes.

The increase will enable individuals to effectively “front-load” their investments and reach the lifetime contribution cap earlier. 

This means more of their capital will have more time to compound, increasing the return over time to the tune of hundreds of thousands of rands. 

Daily Investor compared the potential returns of two individuals investing into a TFSA with a lifetime contribution limit of R500,000.

Individual 1 was restricted by the pre-Budget R36,000 annual contribution limit, while Individual 2 operated under the new R46,000 limit. 

Daily Investor’s calculations show that, provided the individuals use their tax-free fund for retirement, over a period of 40 years, Individual 2 ends up with R461,500 more at maturity. 

These calculations assume the full annual limit is reached each year, with a conservative return of 7% after fees. The contributions are made in full at the beginning of each period.

This is down to the additional three years of compounding with the maximum R500,000 invested that Individual 2 benefited from, while Individual 1 was still reaching the lifetime limit. 

In other words, Individual 2 effectively has three additional years for the R500,000 to compound compared to Individual 1, who was still drip-feeding their capital. 

However, both individuals would benefit handsomely from investing over a long-term horizon, with total returns being roughly around ten times the original R500,000 contribution. 

Their different investment journeys, assuming a return on investment of 7% per year, can be seen in the table and graph below.