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Retirement annuities and investment opportunities for South Africans

South Africans investing offshore have a lot of investment options to consider. Among them is the Retirement Annuity Trust (RAT). Although relatively unknown to South Africans, offshore retirement annuity trusts have been around for about 10 years. The tax treatment of these structures has been tested through the various investment cycles: Establishment, investment, withdrawal and death. They have been found to be one of the most tax-efficient investment and planning structures available in the country.

The structure of an RAT

An RAT is a type of personal pension scheme, where the pension funds are held in trusts and invested on your behalf by a trustee. These schemes are usually situated in Guernsey, Malta or Gibraltar and are regulated schemes on those jurisdictions.

There are two types of RATs:

  1. A personal (individual or bespoke) RAT, which can be tailored to meet your needs.
  2. A multi-member RAT, which may already be in existence where you can be added as a member.

The difference between an offshore RAT and the onshore Retirement Annuity Contract (RAC) is that the RAC operates in a similar manner, however, the money is held under a contract as opposed to being held in a trust. It is the underlying trust-based structure of the offshore RAT that gives it its distinct features.

For it be treated as a bona fide pension arrangement in the foreign jurisdiction, the RAT needs to be an approved occupational pension scheme available to the local community.

As a type of pension scheme an RATs or an RACs is a method of saving money which will then be used to pay you an income in retirement. While some RATs or RACs may offer various other features, it is important to remember that their purpose is to facilitate saving to help fund retirement

All RATs must be approved by the director of income tax in the jurisdiction they are located.

Key features of the RAT

  1. The RAT is recognised as a valid trust. This separates the taxpayer from the member for SARS purposes.
  2. The RAT is considered non-resident in South Africa. That remains the case unless it becomes effectively managed in South Africa.
  3. Members will not be taxed on the income of a RAT prior to the withdrawal of any benefits. However, if a member chooses to receive an annuity, he will be taxed thereon.
  4. A lump sum received from the RAT will generally not be taxed in the member’s hands.
  5. The underlying investments in the RAT are not taxed as the plan is not subject to the EU Savings Directive.
  6. No donations tax will be levied on amounts contributed to the RAT. This is because the RAT is considered a bona fide pension where the member has a bona fide entitlement to income from the trust.
  7. The assets of the RAT will not form part of the member’s estate for estate duty purposes.
  8. Distributions made from the RAT may be retained abroad.
  9. The earliest retirement age for RATs is 50, with most plans having a retirement age of 55.
  10. Income needs to begin to be drawn by age 75.
  11. If any distributions made are subject to income or Capital Gains Tax, such tax can be paid from the member’s South Africa situated assets.
  12. It can be combined with a foreign company to take advantage of the foreign dividend provisions of the Income Tax Act.
  13. Most RATs operate on an open architecture basis.
  14. The RAT rules ensure the plan is not restricted on the investments it can hold. As such it provides investment freedom not available from pensions in South Africa.
  15. Most RATs operate on an open architecture basis giving the investor access to a wide range of unit trusts and funds. These options provide access to both the UK and EU funds market.

Treatment of the transfer of funds into the RAT

As the RAT is a fully offshore investment structure, access is only available offshore through the utilisation of the personal investment allowance. South African tax residents have an annual offshore investment allowance of R11,000,000 per annum. This process requires the resident taxpayer to apply for a tax clearance certificate. Our financial advisors can facilitate this process for you.

On granting of the tax clearance funds can be transferred into the offshore RAT. These payments are considered to be a pension contribution and not a donation. As such, these contributions are not taxable. These payments equally do not qualify for tax relief in South Africa as the RAT does not meet the definition of a pension fund, provident fund or retirement annuity fund in South Africa.

Tax treatment of income and gains arising within the RAT

Importantly, the RAT is not a vested trust. The proceeds of the transfer are remitted to the trustees to be invested. Income and gains arising within the trust do not vest in the hands of the plan owner. Therefore, income tax cannot be levied in South Africa on those gains and income.

Income tax legislation in South Africa clearly sets out the treatment of non-vested funds designed to provide an income based on a future event. This legislation further sets out how that income is applied to the south African taxpayer on the future vesting event.

Therefore, the RAT does not create a tax event when the underlying assets are bought and sold. Thus, portfolio changes have no impact on the tax position of a South African resident plan owner.

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