One of the most misunderstood areas of taxation among higher net worth South African investors is the implications of holding a high-value portfolio of shares in an offshore jurisdiction. Many wealthy investors have sizeable global share portfolios with banks in Switzerland, the Channel Islands, and other parts of the world.
They have established these relationships with international banking institutions and are of the opinion that these portfolios represent a low-cost and efficient solution. Yet, upon closer examination, these arrangements can be inefficient from a tax and brokerage cost perspective, dispelling any other financial advantages the client achieves.
Death and taxes
For a South African tax resident, holding an offshore share portfolio introduces a range of complexities in meeting their tax obligations. One challenge relates to the fact that you will need to report on each share trade and pay Capital Gains Tax (CGT) on any gains. The CGT often makes it tempting to hold onto shares and avoid making changes, even when it might be wiser to rebalance the portfolio.
In addition, you will need to report on dividend payouts and any taxes withheld by the offshore institution. Given that international banks are not geared up for South African tax reporting, you will need to ask them to generate a bespoke report – usually at a cost – or sit with your accountant or tax advisor to comb your statements for the information.
One of the biggest drawbacks relates to estate planning. The UK and the US levy an estate duty on certain ‘situs’ assets, which means that this aspect of your estate will not only be taxed in South Africa, but also in those jurisdictions. For UK-listed shares, you will face 40% tax on situs assets above the value of £325 000, but with no situs tax levied on shares left to a surviving spouse. The threshold for situs tax in the US is $60 000, with a top bracket for estate tax of 40%, with no roll-over relief for the surviving spouse! Foreign banks and institutions are often not prepared or permitted to provide tax advice on these matters, but they may well be required to withhold the tax on the death of the investor.
It’s also wise to keep an eye on the costs of your offshore portfolio. There may be significant brokerage fees payable on share trades, which can quickly add up. You may not be able to get tax deductions for brokerage charges, portfolio management fees, and so on.
The structure of the share portfolio, and the individual shares held, is often dependent on the views of your specific portfolio manager, despite the house view. Also, the turnover of portfolio managers can be high, and it takes some time to adjust when a new manager is appointed to your account.
Accumulation class funds – a better alternative?
Given the pitfalls of offshore share portfolios, we favour accumulation class/roll-up mutual funds as a vehicle for offshore investments. With these vehicles, no income tax is payable for funds domiciled in the right jurisdictions and CGT is paid only when you exit the investment. These funds also enable you to avoid situs taxes.
Other advantages of these funds include the following:
- Tax administration is simpler, especially when fees are all-inclusive and there is no sale of units.
- Where the fees are included, they are offset against the gains and thus the costs are thus effectively tax-deductible.
- Costs are transparent and consistent across investors because fees are disclosed and published by the fund manager.
- There is a larger team of fund managers, analysts, and economists in place, providing a more stable and consistent base for the decision-making process.
Remember that tax reporting between countries is becoming more transparent – which means it is increasingly difficult to escape obligations such as situs taxes.
Since international institutions will not give locally relevant tax advice, you may need specialist input to evaluate the tax efficiency of your offshore portfolio. To ensure that you make well-informed decisions in this regard, you are welcome to contact us, as we can assist in procuring bespoke specialist advice if necessary.
Take action as soon as possible if you are already invested in assets that may attract situs tax upon your death in order to optimise your portfolio’s costs and tax efficiency.
Here are the links to the other articles in our series on tax-efficient investing:
Part 6 – Managing the Pitfalls of Offshore Share Portfolios (current article)