Reflections on the 2014/15 National Budget Speech

For the second year in succession, the National Budget Speech has been eclipsed by the Oscar Pistorius saga.

An overall impression

This is concerning, as there’s much work to be done in the field of financial planning and many South Africans don’t understand the risks inherent to the current sociopolitical and socio-economic environment.

The good news is the economy finally seems to be gaining some momentum. This is reflected in the 2013/14 tax collections that will achieve the budget of R899 billion. Therefore the widely anticipated personal tax increases didn’t materialise. This is a substantial improvement on the forecasts made at the October 2013 Medium Term Policy Budget Statement when predictions for the 2014/15 year were bleak.

The 2014/15 total tax collection target of R999 billion is no more than an inflationary increase, with no change in the overall tax mix game plan. Not even the postponement of carbon tax implementation has made an impression at this stage.

The most significant consequence of better-than-expected tax collections is that the national debt trajectory is finally levelling off, from 5% of annual GDP in 2012/13 to 4% in 2013/14 and a forecast 2,7% by 2016/17. Hopefully this will provide some comfort to the sovereign debt rating agencies. But will it be enough to negate other factors such as labour unrest and the Eskom debacle? Only time will tell. The rand remains extremely vulnerable and is a bigger threat to wealth creation than any taxation proposal.

On the bright side, we can say the taxpayer survived the 2014/15 budget when many predicted otherwise. Unfortunately life isn’t that simple.

Modern business leadership should concentrate on the triple bottom line – profit, people and planet. There can be no doubt the 2013/14 National Budget Speech scored well for profit. But what of people and planet?

When it comes to ‘people’, Finance Minister Pravin Gordhan can hardly be criticised for buying votes with taxpayers’ money. Increasing the grant for the elderly by R30 a month and the child grant by R10-R20 a month is hardly going to make life less tough for the 16 million social grant recipients.

Perhaps the ANC leadership itself was expecting more for people from the budget speech. They certainly need to demonstrate more accelerated delivery if any attempt is to be made to counter Julius Malema and the Economic Freedom Fighters (EFF). This may well be the source of the continued rumours that Gordhan will not be recalled as Minister of Finance after the May 2014 elections, even though there’s no obvious successor waiting in the wings.

Substantial changes are expected in the new cabinet, to be announced in May 2014. It’s known Trevor Manuel, the architect of the National Development Plan, will move on. If Gordhan isn’t recalled to cabinet it will leave South Africa with new appointments to the Minister in the Presidency and Minister of Finance. Not to mention the new Commissioner of SARS hasn’t yet been announced. This could well create uncertainty in markets.

All of this suggests that going forward South African economic policy is far from cast in stone. There will be change – the only questions are when and to what extent.

When it comes to ‘planet’, the national environment budget falls short. South Africa continues to spend less than R7 billion per annum on the environment out of a total expenditure of R1,2 trillion.

Worldwide trends

The worldwide tax authorities are short on collections. It’s perhaps necessary to look at a broad picture of tax developments since World War 2 to fully appreciate the problem.

  • Up until about 1950 tax authorities concentrated on a mix of personal and corporate income taxes, sin taxes and estate duties.
  • Through 1950 to 1980 direct income tax rates increased to draconian levels to fund massive increases in social security benefits promised by politicians. Collections were supplemented even further through the introduction of stealth taxes, primarily aimed at the consumer.
  • The tax planning industry reacted to the increase in direct income tax rates by offering a wide range of aggressive tax planning packages that sought to exploit loopholes within the different tax regimes. Initially these were extremely successful as tax laws and enforcement capability were substantially deficient. Penalties and other consequences for non-compliance were minor.
  • Since 1980 the worldwide tax authorities have introduced a wide range of measures to combat tax planning and have increased enforcement resources substantially. Consequences for non-compliance have also increased considerably.
  • After the Enron debacle and 2008 financial crisis, corporate citizenship and social responsibility have become prominent in the boardroom, which has curbed the appetite for tax evasion significantly.

But today, post the financial crisis, the problem remains that the existing worldwide tax bases are insufficient to fund social security benefits governments had implemented prior to the crisis. No amount of anti-avoidance legislation or additional enforcement measures will reduce the extent of national deficits. So tax increases, in one form or another, are almost inevitable. South Africa is different in this trend only in that it’s trying to increase social security for its more than 50 million citizens.

International experience shows that increasing personal and corporate tax rates achieves little more than losing votes for governments and scaring away direct foreign investment. There’s also the concern that higher tax rates increase levels of tax evasion. Therefore, the easiest remedy is to introduce more forms of stealth taxation.

Tax trends in South Africa

For the past 18 years Manuel and Gordhan have led South African economic policy, basing their strategies on sound conservative economic principles. State expenditure has been curtailed to levels that the tax base and national debt can reasonably afford. The questions are whether this can be sustained and what the effect on the rand will be if economic policy were to change.

Today 55% of South Africa’s tax collections come from direct income tax. The remainder comprises transaction taxes on expenditure. The vast majority of taxpayers have no appreciation of the true extent of their tax exposure to transaction taxes. Furthermore, few tax planning arrangements can mitigate transaction taxes as they’re included in the cost of supplies.

Of particular concern to business in South Africa are fuel and electricity levies. Pravin Gordhan may have been generous in containing the fuel levy increase to 20 cents a litre and avoiding increasing the electricity levy, but the fuel levy remains South Africa’s fourth-largest tax at R47 billion per annum and with a further R10 billion collected through the electricity levy.

The delay in the implementation of Carbon Emissions Tax (CET) until 2016 is widely being interpreted as an indefinite delay. Indeed there are fundamental difficulties in implementing this tax – not to mention Australia’s attempts at CET were a complete failure, resulting in its withdrawal. But this doesn’t mean increased energy taxes aren’t on the horizon.

In South Africa increasing energy taxes may be the only alternative to increasing the VAT rate above 14%. The political ramifications of increasing the VAT rate are unacceptable.

All in all, South African business and the consumer remain highly vulnerable to massive increases in energy prices caused by base price increases, weakening exchange rates, the Eskom debacle and increased taxation on energy. Not enough is being done to address these long-term risks.

An example of barking up the wrong tree:

The increased tax exemptions and thresholds applied to tax-free lump sums on retirement

In financial planning circles there were cheers during the National Budget Speech when, in a surprise move, the tax threshold applied to lump sum withdrawal benefits from retirement funds was materially increased for the first time since 2007. Today, the taxpayer can receive R500 000 tax-free on retirement (formerly R315 000). The 18% tax band was extended to R700 000 and the maximum tax rate (36%) is now applied only to lump sums exceeding R1,5 million (formerly R900 000). All this caused much excitement as some taxpayers scurried to delay their retirement to after 1 March 2014.

On reflection, the increase of the tax-free lump sum to R500 000 is worth a once-in-a lifetime R33 300. Nice to have, but hardly enough in terms of building a financial plan to survive 20 years in retirement.

By contrast, the collections from dividends tax are R6 billion short of the budgeted R23 billion. The primary problem is that the National Treasury has vastly underestimated the extent of the dividends tax exemption granted to retirement funds. If this is coupled with the abolition of retirement funds tax in 2009, the total tax exemptions granted to retirement funds are estimated to cost government in the region of R20 billion per annum. Then add the cost of tax savings granted on retirement fund contributions, a further R10 billion per annum.

The anomaly surrounding the increase in the tax-free lump sum thresholds is that it encourages taxpayers to leave the shelter of the tax-free haven of the retirement fund. Even if a lump sum payment is tax-free it creates tax exposure when the funds are spent or reinvested by the taxpayer to yield taxable income. And ultimately, when the taxpayer dies, whatever remains could be subject to estate duty at 20%.

Conclusion

Financial planning entails far more than minimising the tax exposure of a retirement fund lump sum. Perhaps we should be looking at integrated financial planning. This would be a process that would (1) establish a sustainable business plan to address the challenges of the future, (2) create an investment strategy that has a realistic prospect of achieving the sustainable business plan and (3) legally minimise both direct and indirect taxation effects.

This article originally appeared in Reflections on the 2014/15 National Budget Speech in glacier by Sanlam, The {Inside} Story


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