This article first appeared in City Press, November 8th 2015 edition.
The student protests over the past few days have highlighted the high cost of tertiary education. For many, the cost of registration alone is enough to shut the door of opportunity.
The South African Institution of Race relations reported that only 5% of South African families could afford to send their children to university. While the government may or may not decide to make higher education free, parents of young children, like myself, need to start thinking ahead to avoid being part of the 95%.
The first thing every parent needs to consider before shopping around for a suitable product is their financial position and what type of education they want for their child. How much can you set aside on a monthly basis, or are you making a once-off lump-sum investment? Are you looking to send your child to a public or private school? What about extracurricular classes and activities? Will you also want to save for university, and what figure should you be looking at?
The investment time frame is also important. The investment considerations for a new born baby are going to be different to those of a ten-year old.
When it comes to investments, you want to ensure that the vehicle you invest in yields the best possible return over the investment time period. You’re going to be on the lookout for an investment that, at the very least, has returns that beat inflation, is low on costs (management, performance and other investment related fees that might be imposed).
Some parents might want flexibility in terms of accessibility to funds. You’ll also want to save as much as possible on taxation of the investment. All these considerations will have to be taken into account first before you make the leap.
At the time I started saving for my son’s education my financial situation was less than ideal. I panicked that I’d started too late and that I wasn’t saving enough. I shopped around and eventually settled on Exchange Traded Funds (ETFs) opting to avoid a traditional education policy.
My reasoning behind choosing ETFs was mainly the lower cost but I still had time to allow my investment to grow and ride out market dips so I didn’t need any investment guarantees.
When TFSAs were introduced last year, I started thinking about channelling funds into a tax- free ETF or Unit Trust to save for my son’s university education. A friend of mine suggested that I rather look at an endowment policy which might work better in terms of returns and the tax benefits. I decided to dig a little, and after digging I realised that, due to my tax bracket, an endowment policy would end up being a big cost for me and there would be no benefit when it came to tax.
Endowment policies have a tax rate of 30% so the only people who would benefit in terms of tax are those in the tax bracket above 30%. They’re also not liquid investments and capital is not accessible for 5 years, although some policies do allow policy holders to withdraw partial funds. A lot of people might opt to go for an endowment because access to funds is limited, thus making it difficult to withdraw funds in an emergency. There are penalties that apply to an early withdrawal of funds (that is, withdrawals before the end of the 5 year period). The penalty rate, usually set at around 15%, decreases the closer you get to the end of the 5 year period.
Some endowment policies give members an option of making a lump-sum investment or investing on a monthly basis as do ETFs and unit trusts. There are also several asset classes available to invest in, with different risk profiles taken into consideration. Those looking at endowment policies also need to pay attention to initial costs, monthly costs and annual costs. Some costs may include adviser’s commission, performance and admin fees and asset management.
Some companies charge these fees collectively as reduction in yield (RIY) and this is worked into your portfolio. The other benefit of an endowment is that the company handles tax declarations with SARS on your behalf, whereas with ETFs and unit trusts when you sell them, any capital gain has to be declared in your income tax return.
A tax-free savings account would save me more in tax and costs than a traditional education policy and I have the flexibility of investing in a range of different investment houses and products including ETFs, unit trusts and bank savings accounts. The key is to make sure that the underlying investment meets your timeframe. If you are only putting money away for the next two or three years then you would want a lower risk, money market type investment. The government RSA Retail Bond would also be a good option for this this time period (provided it is a once-off, lump sum investment).
If you have a longer time period of between five and ten years than you could consider a balanced unit trust fund that invests across cash, property and equities. For someone like me who has more than ten years before my son starts tertiary education, I am happy that an investment in a tax-free ETF savings account meets my needs.
Visit www.savetaxfree.co.za for more information on tax-free savings accounts.