Why you need a tax-free savings account

A tax-free savings account (TFSA) is a financial product created by the South African government to encourage people to save. If you invest in a traditional investment product like a unit trust account, you pay tax on any growth within the investment. Not so with a TFSA: you get to keep all the earnings without giving any of it to SARS.

Here’s how it works, and how you can get the maximum benefit.

The rules

• There are annual and lifetime limits. You can contribute up to R36,000 per year to your TFSA, with a lifetime limit of R500,000* without being taxed on your contributions. Note that if you have more than one TFSA (which some people do), the contribution limits apply across all your accounts. In other words, if you have three TFSAs, you can’t contribute R36,000 to each one per year – you have to choose how to split the annual limit between them. If you don’t reach your R36,000 limit, the shortfall doesn’t roll over to the following year – your limit each year is always the maximum allowed contribution at the time.

*Remember that contribution limits can change. Speak to your financial advisor and keep up to date to get the most out of your TFSA's.

• You get taxed on contributions over the limit. If you contribute more than R36,000 in a year, you’ll pay 40% tax on the amount over the limit. It’s important to keep track of your contributions to make sure you don’t pay the hefty price of contributing too much.

• You can’t replace what you take out. If you take money out of your TFSA, you can’t replace it later – your limits don’t reset. For example, if you contribute R36,000 in one year and then withdraw R6,000, you can’t contribute R6,000 again in the same year. This also applies to your lifetime limit. If you’ve put in the max of R500,000 and you take out R10,000, you can’t top up the account to R500K again.

• You can transfer money between TFSAs. If you want to move your TFSA to a different service provider, you can do so without affecting your limits. Request a tax-free transfer from one account to the other, instead of withdrawing your funds.

Maximise the benefit

Even though you can ‘only’ put in R500,000 over your lifetime, this doesn’t mean your account stays at R500K forever. Remember, your investment will earn interest and grow with the market. The perk of a TFSA is that you don’t have to pay any tax on your earnings within the fund.

To maximise the growth of your TFSA, it’s best to contribute your entire allowance of R36,000 per year if possible, which equates to R3,000 per month. The longer your money sits in the account, the more it grows. Make it easy to contribute by setting up a debit order for the maximum amount you can afford each month. If this isn’t R36,000 by the end of the year, try to top it up further!