​Press Room

Offshore is a yes, but how?


Stephen Katzenellenbogen
Aug 29, 2016
Direct investment versus product

The diversification benefits of including global assets (outside South Africa) in a portfolio have been well documented. Both the theory and evidence are conclusive that one should have some allocation to non-rand assets.

Another area that has enjoyed coverage are the different ways to incorporate global exposure into a portfolio, these can be briefly described as follows:

  • Feeder Fund: this is a local unit trust that invests almost all of its assets offshore (a small percentage is usually left in rand for liquidity). The investment is made in rand, reported in rand and redeemed in rand whilst enjoying the gain or loss of both the performance of the fund and the movement in the underlying currency.
  • Asset swap: most asset managers, life companies and stockbrokers are allowed, per the Sarb, to invest a portion of their assets offshore. Where they do not use the full extent of their allowable capacity it is then often given or sold to investors. Your funds physically get invested abroad, in your chosen currency, but they have to be repatriated when you want the funds. A point to note is that you are exposed to the institutions balance sheet when entering into an asset swap arrangement so make sure they are creditworthy.
  • Allowances: all taxpaying individuals, over 18 years of age whose tax affairs are up to date, have a single discretionary allowance (R1 million) and a foreign investment allowance (R10 million) available to them, with both being available for investment purposes. You can invest into a broad range of assets similar to feeder funds and asset swaps funds except in this instance your funds are physically offshore and do not need to be repatriated unless you choose to do so.

The three routes to global exposure, described above, largely achieve the same result but with some noteworthy differences:

  • Feeder funds are taxed on rand gains/losses while asset swaps and foreign investment allowances are generally taxed on the base currency gains/losses.
  • The foreign investment allowances can be retained offshore indefinitely

For the balance of this article we will assume that funds are externalised via foreign allowance or an asset swap.

Once the decision has been made to invest globally the next step is to decide whether or not to use a product to hold your assets. The word product can be fairly broad, but in the context of this article refers to an endowment or sinking fund sometimes also referred to as a wrapper, which is the terminology we will use.  In terms of traditional investment, you have a choice to invest in either unit trusts or via a custodian (stockbroker). Both investment options cover the spectrum of asset classes, geography, risk profile and currency. The decision whether or not to hold your assets via a wrapper revolve, in our opinion, around a few issues:

 

 

Direct

Wrapper

Probate

 

Probate is a process whereby a will is accepted by a court as a legal document. There are certain offshore jurisdictions which cannot be governed through a local will. In these instances, very often the local estate is delayed whilst the will is sent offshore – this can cause unnecessary delay and cost.

No probate when beneficiaries are nominated

Situs

Assets held in certain foreign jurisdictions, most notably the UK and the US may be subject to inheritance tax under the law ofsitus. In the US this results in tax at 40% for asset bases in the US of over $60 000 and in the UK tax at 40% for asset bases in the UK of over £325 000.

Assets held in wrapper are not subject to such considerations. Normal South African estate duty will however apply at 20% tax on asset bases exceeding R3 500 000

Tax

Tax is applied at the rates applicable to the owner of the assets

For individuals, and trusts with only natural beneficiaries, Income Tax is applied at 30% and Capital Gains tax at 12%. Tax is paid within the product on behalf of the owner and as such withdrawals free of tax (treated as capital). Be aware, most wrappers account for tax in base currency but some do this based on rand gain. Our preference is for a base currency basis of taxation.

Continuity

 

Assets may or may not need to be sold on death

Some wrappers provide for beneficiary nomination for ownership thereby creating continuity. Where continuation is possible the asset still forms part (deemed asset) of the deceased estate.

Cost

Unit trusts and custodial assets will have costs and fees; like all investments make sure you are aware of these.

Unit trusts and custodial assets will have costs and fees; like all investments make sure you are aware of these. Over and above the aforementioned fees there will be an additional wrapper fee. Does the increased fee justify the benefits?

Death

Assets form part of the estate and are subject to Executor fees.

Assets deemed to be part of the estate but arenotsubject to Executor fees.

Liquidity

Assets are liquid to the extent of the terms of underlying asset. These days most unit trust have daily pricing and therefore daily liquidity, and most stock exchanges trade on a T+3 basis.

The assets in the wrapper are liquid to the extent of the terms of underlying asset. These days most unit trust have daily pricing and therefore daily liquidity, and most stock exchanges trade on a T+3 basis. The aforesaid caters for easy switching. Liquidity (withdrawals) within the first five years is limited to the net capital invested plus 5% simple per annum. Furthermore, you are also only allowed two withdrawals in the first five years, via one loan and one surrender, thereafter full liquidity is available.

 

The decision to invest direct or to use a wrapped investment is consequentially important and deserves attention. In articles of this nature there is not the scope to delve into the finer details and exceptions. The intention is rather to provide thought provoking material that could benefit you and your family.