Lesson 2 - Taxes and Costs
The next investment lesson is to keep taxes and costs down. Your investments grow from compounding as we have seen but they also reduce with tax and costs.
The new tax free savings account (introduced last year) allows you to save tax free. How beneficial is this? There are different tax charges on investment returns and there are many implications for different taxpayers so it gets quite complicated. But as a rough rule of thumb, after 20 years investing in a balanced fund, an average-taxed investor (already utilising his investment return tax exemptions) could have about 40% more money if he invested in a tax-free account compared to a taxed-account. That’s a massive benefit and it gets larger the longer the contributions remain invested.
Now let's consider costs. Investment costs are inevitable - you need providers to advise on, manage and administer your investment. But what is a fair cost? Last year, Morningstar research indicated that the total costs of investing in South Africa were about 2.5%-3.0% (on average) for retail investors - this fee is measured as a percentage of your investment value.
That might not seem like a lot but it is massive and destroys your investment return over-time. We know that investment returns compound to build up your wealth. Costs, on the other hand, compound to destroy your wealth. By eliminating a 1% annual fee for a 30-year investment - so for example, moving from a 2.5% annual investment cost to 1.5% - would increase your investment value by about 35% (all other things remaining equal). That’s a massive benefit.
Last year, Tax Free Savings accounts were launched in South Africa and over the last five years, there has been competitive and regulatory pressure on bringing investment costs down. That is great for the investor.
There are now a few providers offering low-cost tax free savings accounts, such as Triarc. Contact us now to invest.
So Lesson 2: Being cost-efficient and tax-efficient can create significant value for a long-term investor.
Author: David Shochot
CEO Stylo Investments