Capital gains tax (CGT) may have a significant impact on life and disability assurance taken out by employers on behalf of employees, depending on how it is structured.
Henry Dul, the national manager of Standard Bank Employee Benefits, says that life and disability assurance benefits are structured in two ways. These are:
- As a policy held through a retirement fund with a member being the beneficiary. This type of policy is not subject to CGT in the hands of a beneficiary, but any payment above the amount equal to twice the annual salary is subject to income tax.
The taxable portion of a death benefit payable from a retirement fund is the amount in excess of the greater of R60 000 or twice the deceased member's salary, subject to a maximum salary of R60 000.
This means that if the fund takes out the life cover on the member, and an amount is paid out from the policy that exceeds the exempted amount (for example R120 000 if the member's salary is R60 000 a year), this will be taxed at the deceased member's average tax rate. This maximum R120 000 exemption includes the proceeds from the policy and other benefits paid by the fund (for example, the return of the member's contributions); or
- An employer takes out a policy naming the employee as the beneficiary. This type of policy is often taken out to avoid the consequences of tax on a policy taken out through a retirement fund. However, this type of policy now becomes vulnerable to CGT.
Only the beneficial owner of a policy is exempt from CGT on a life assurance policy. Because the policy is in the name of the employer, the employee is not the "beneficial owner". Even if the employer contracts an insurer to pay the benefit directly to the dependant, the proceeds of the policy will still not be exempt from CGT and will be taxable in the hands of the recipient.
Dul says in both cases the proceeds will be subject to estate duty. If your estate exceeds a value of R1 million and the benefits are not paid to a surviving spouse, estate duty will also be payable.
Dul says it can be argued that the benefit may be taxed at four different stages:
- The premium paid is taxed as a fringe benefit of the employee (this can be avoided if the benefit is structured correctly);
- Growth in the assets is taxed in the hands of the life assurer;
- The proceeds may be taxed as income in terms of the definition of gross income in the Income Tax Act, or as a capital gain in terms of the new CGT legislation; and
- The proceeds may also be taxed in terms of estate duty legislation.
Dul says funds and employers should get proper advice on how to structure life and disability assurance in order to avoid unexpected and unpleasant tax consequences.