43 – The formula for calculating capital gains tax
Question
I retired three years ago, with half my income coming from my company pension fund and the other half from interest from investments. I am paying tax at a rate of 41%. Is there anything that I can do to reduce this amount?
Answer
In order to calculate capital gains tax (CGT), we must know these three things:
- The capital gain.
- The inclusion rate. (I will explain this.)
- The tax rate.
The formula for calculating CGT is as follows: CGT = capital gain after the deduction of any exclusions x inclusion rate x your marginal tax rate.We need to know what exclusions will apply, what the inclusion rate is and what the marginal tax rate is.
Exclusions
If this is your primary residence, then the first R2-million of the capital gain will be excluded from the calculation. If it is your holiday home or one that you use for rental income, then the full profit will be taxable.I will assume that this is your primary residence, so only R1.5-million of the R3.5-million gain will be taxable.
Inclusion rate
Not all the gain is taxable. If you are an individual, only 40% will be taxed. If the property is owned by a company or trust, then 80% of the gain will be taxed.
Marginal rate of tax
Your income tax is levied on a sliding scale. The more you earn, the higher your tax will be. The marginal tax rate is the rate of tax charged on the last rand you earn – it is the highest tax rate that you pay.The CGT formula is as follows: capital gain x 40% inclusion rate x your marginal tax rate.You would therefore pay: R1,500,000 x 40% x 36% = R216,000.
Insider tip
If you sell a big asset like a house, try to reduce your marginal tax rate. There are a few ways of doing this:If you live off the proceeds of a business, reduce your drawdowns for the tax year and live off some of the profit from the sale of your house. In the example above, if you reduced your marginal tax rate to 18%, then your CGT would halve to R108,000.If you are on a fixed income or pension, then invest in a retirement annuity (RA) in order to drop to a lower tax bracket.For example, if you earned R500,000 a year, your marginal tax rate would be 36%. You are allowed to contribute up to 27.5% of your income to an RA. This would equal R137,500 and would reduce your taxable income to R362,500. The marginal tax rate for R362,500 would be 31%.If you applied the new marginal tax rate to the CGT formula, you would have: R1,500,000 x 40% x 31% = R186,000, which saves you R30,000.
Question:My parents do not have any assets besides their home. They have bequeathed their home worth R1-million to me. What estate duty and transfer costs will I be liable for?
Answer:There is something called a section 4A abatement that will give each of your parents a R3,500,000 buffer on their assets before estate duty is charged. If the estate is worth less than R7-million, then there would be no estate duty payable on the house.There are two other costs that you must look out for when someone dies: CGT and executor fees.These often take us by surprise, as we tend to focus only on estate duty. I come across many estates where there has been no planning for these costs and then assets have to be sold in order to cover them.In your instance, there would be no CGT payable, as it is a primary residence and the gain is below R2-million.The executor fees, however, would be 4.025% x R1,000,000 = R40,250.
Transfer costs
There is no transfer duty payable when you inherit. However, the property will have to be transferred into your name. This will incur conveyancing fees of about R20,000.
KENNY MEIRING IS AN INDEPENDENT FINANCIAL ADVISER
Contact him via phone, email or via contact phone on the financialwellnesscoach.co.za website
Read more of our articles on the Daily Maverick website or newspaper weekly!