Company pensions and medical aid schemes are standard add-ons to many employees' salary packages but most employees don't know how to wring the maximum tax benefits out of them. In this, the fifth and last in our series on structuring your salary package, we look at the tax rules applying to some quite common perks given by employers to staff at various salary levels.
When you consider how to incorporate pension or provident fund contributions and medical aid in your salary, apart from the details below, you should also be looking at the number of years until your retirement. We have assumed below this is not a consideration since your salary structure approaching retirement will be unique to you, and put together with an expert.
Pension and Provident Funds
As an employee with a tax package, your salary can be divided into two elements - the part taken into account for your retirement funding, and the part which is not. This is called retirement funding income (or pensionable earnings) and non-retirement funding income.
Add-ons or benefits like your travelling allowance or cellphone allowance could be fully or partially pensionable.
You can deduct any contributions made to a pension fund to a maximum of R1 750 or 7,5 percent of your retirement funding income.
For example, if your basic salary was R9 000 a month and you enjoyed allowances of another R1 000, you could make contributions of up to R675 a month (7,5 percent of R9 000) to the company's pension fund tax-free - effectively reducing your basic taxable salary to R8 325 a month.
But you can also get a tax deduction on your non-retirement funding portion of taxable salary by contributing up to 15 percent of it to a retirement annuity fund (RAF). In the example above, you would be allowed to contribute another R150 a month to a RAF, effectively reducing your non-retirement funding income to R850 a month. But your employer may not make tax-deductible contributions to a retirement annuity fund on your behalf.
If you are a member of a pension fund but are contributing much less than the maximum, you can make contributions to a RAF up to R3 500 a year, less the amount you are paying to the pension fund.
You get no tax deductions for making a contribution to a provident fund but if your employer contributes on your behalf, you will not be taxed on that. Using the same example above, where your employer is prepared to give you a basic salary of R9 000, your employer could contribute the same R675 a month, or more, to the provident fund for your benefit and pay you R8 325 as a taxable income. Being a non-contributory member of a provident fund is a significant tax saving.
If you leave your employer before retirement and were a member of a provident fund, either contributory or non-contributory, you will be paid a lump sum. Unless you put this all into a similar fund (another type of provident fund) you will be taxed on it. There is a first non-taxable amount of R1 800, and any contributions you made to the fund that were previously taxed will also be deducted, as well as any sums you transferred into another provident fund. The rest of the money will be taxed at the higher of your average tax rate in the current year and the previous year.
Medical Aid
Until the latest Budget, a major salary perk was enjoyed by those who belonged to non-contributory medical aid schemes. In these cases, employers would make the full contribution for employees to belong to medical aid schemes with no tax implications for employees, and in turn employers could deduct this cost in full from the taxman.
This benefit is only available to employees whose employer has entered into an agreement with a medical aid scheme, the rules of which allow the employer to make the full contribution.
Although this benefit is still available, the latest Budget has limited the tax benefits that you can enjoy from a non-contributory medical scheme. To the extent that your employer pays more than two-thirds of the total medical aid contribution, that amount will be taxed at your marginal rate of tax. For example, if your medical aid contribution costs R1 000 a month, all paid by your employer, R333 a month will be added onto your taxable salary. Previously, the full R1 000 would have been tax-free.
Education costs
Some employers have been practising a scheme where they were making contributions on behalf of their employees to fund school or university fees for employees' children. The vehicle used has been "friendly societies", incorporating educational trust funds, because they allowed employers to claim a tax deduction for their contributions. But in the latest Budget the tax-deductibility of employer contributions to friendly societies will be removed next year.
The only education benefits you can legitimately be given tax-free as an employee are a loan or bursary for yourself, or a bursary for your relatives to a maximum value of R1 600 a year if you earn less than R50 000, assuming this is a scheme only for employees or their relatives. If the company offers bursaries to the general public and you or your relatives are granted one, you will not be taxed on it. There must be no salary sacrifice involved in these grants.
Another option is, if you are going to do a course that relates to your job like an MBA, for your employer to subscribe to the tertiary institution for the course on behalf of you, the employee. The payment of the course fees would not be taxable in your hands. Obviously, this has to be a course that is relevant to your employer's business.
Long-service awards
You can receive up to R2 000 in a tax year for bravery or long service without incurring tax, but this award has to be in the form of assets, rather than cash. It can be a relatively liquid asset, though, like shares or unit trusts. Long service is considered to be an unbroken 15 years and every 10 years after that.
Deferred compensation
Deferred compensation is not an attractive salary sacrifice, Ron Warren of Pay Squad, who runs tax seminars for Dynamique Africa, says.
A deferred compensation scheme is intended to provide you with a lump sum when you retire. The employer structures this by taking out an insurance policy which matures on the date of your retirement. Sometimes you accept a lower salary and this funds your employer's premiums on the policy.
Warren says the insurance policy is in the name of the employer for tax reasons, and not the employee, so if the company is liquidated, the asset will be used to pay out the company's creditors - a painful event if the employee sacrificed some salary to have a deferred compensation scheme.
If you resign or die before the date of retirement, you might receive nothing, so you should check the details of the agreement.
"A further sting for the employee comes when the benefit is payable," Warren says. "Only the first R30 000 of the lump sum is payable tax-free, and the balance is taxable on a combination of the employee's average rate of tax and his marginal rate of tax.
"Even that first R30 000 may not be tax-free, if the employee has previously received any lump sum payments in anticipation of retirement or on retrenchment. The R30 000 tax-free allowance is a sum that applies to the total of all such payments during the employee's lifetime."
Share option schemes
Hanneke van Wyk, a tax consultant at Arthur Andersen, says a huge number of share option structures exists. Usually, these incentive schemes are initiated by employers and you as a employee have no say in how they will work.
The main purpose of a scheme where your employer gives you real or phantom shares or share options in the company is to motivate you, not to offer you a tax benefit. But you should be aware that there are tax implications to most of these schemes. For example, if your company's shares are currently trading at R1 each, and you are offered the option to buy the shares at R1 each in five years' time, you will be taxed on the difference between the option price you pay and the market price of the shares at the time you exercise your option.