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Explained: How tax-free savings accounts work

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With the current economic climate, it can seem impossible to get ahead in life. Everything is more expensive, but if you make sound investments, you can still make your money grow. Plus, you can do it tax-free.

All thanks to tax-free savings accounts. Here’s how TFSAs work.


How does a tax-free savings account work?

A tax-free savings account is an account you hold with a bank, an investment firm, or a platform, that allows you to save and invest money that counts toward your individual tax-free savings limits set by SARS.

Any interest or appreciation in value on money invested in a tax-free savings account will not be taxed because the account is nominated as a tax-free savings account.

You can think of a tax-free savings account like a basket where you accumulate qualified investments that generate tax-free income. But like everything in life, tax-free savings accounts have rules that you must follow or risk getting a hefty fine.


Tax-free savings account limits



The tax-free savings account rules in South Africa with regard to limits are as follows:

  • Each person has a total annual contribution limit set to R36 000 per year.
  • Everyone also has a lifetime contribution limit of R500 000.
  • Withdrawals may be made, but contribution allowances are not restored.
  • Exceeding annual and lifetime limits will incur penalties.
  • There is no limit to the number of accounts you can open, but it is important to make sure the sum of all the contributions you make to your accounts does not exceed the maximum allowed.


Fixed deposits vs funds (or investment instruments)

Comparison: Fixed deposit vs Investment instrument TFSAs


Fixed deposits 

Most accounts and banks offer a variety of fixed terms for cash investments. Fixed deposits allow you to earn a set amount of interest in exchange for locking your money in for the fixed term.

Usually, the longer the term is, the more interest you will earn.

The rate will be set on the date of the investment. Be aware that you could be penalised for early withdrawals. The penalty varies from provider to provider but cannot exceed R500.

Let’s use Nedbank as an example. With them, the following applies:

  • You will need to give a minimum investment amount of R1000.00
  • You will earn a fixed interest rate
  • Interest is paid monthly, quarterly, half-yearly or on maturity


You can make your own deposits in line with the bank you choose but remember you still have limits stipulated by the National Treasury, tax-free savings deposits are limited to R36 000 annually.

Do your own research to make sure you are happy with the fixed cash investment and the returns you will yield. Here is a comprehensive list of the best tax-savings accounts in South Africa.


Funds (or investment instruments)

Investment instruments (like funds) are marketable assets that hold capital value and can be traded.

The three major types of investment products:

  • Equities (stocks/shares) Shares represent ownership in a corporation. A corporation’s assets and profits are proportionately shared by its shareholders.
  • Bonds (Private corporations or government agencies issue debt instruments to raise money for long-term projects).
  • Funds (Mutual funds pool money from many investors to buy a variety of securities through a professionally managed collective investment scheme). 


Some investment platforms and funds offer tax-free savings accounts that allow you to invest without being hit with capital gains tax when your investment matures.

A popular tax-free investment product is an Exchange Traded Fund.

Exchange-traded funds (ETFs) are pooled investments that operate similarly to mutual funds. Like regular stocks, ETFs track a specific index, sector, commodity, or other assets, but unlike mutual funds, they can be purchased or sold on a stock exchange. 

Now that you know how tax-free savings accounts work and what investment options are available, let’s see how you can make the most of your investments.


How to maximise the benefits of your tax-free savings account

  • It’s very important to think of your TFSA as a long-term investment. In most cases, tax savings and investment returns become meaningful after about ten years. The longer you leave your tax-free savings invested, the more interest it can accrue, so try not to withdraw until you are ready to retire.
  • As we’ve mentioned before, set up a payment system that works for you. Each individual is unique, and there are so many companies available to choose from, but be sure to choose a reputable one. 
  • Try not to make withdrawals as you are growing your money because it will affect your lifetime contribution. 
  • Choose an investment portfolio that aligns with your timeline. If, for example, you wish to use it as a savings vehicle for your newborn child’s tertiary education, you will have an investment horizon of approximately 18 years.
  • Note that when setting up a tax-free savings account for your child, you will essentially be using part or all of their lifetime allowance, and, as a result, they may not be able to save tax-free later in life.
  • Transfers can only be made between service providers if you wish to move from one to the other. To transfer funds from one account to another, you must first withdraw the funds from the first account. Taking this action would be considered a withdrawal, and any reinvestment would be counted towards your lifetime allowance.


Final thoughts

Tax-free savings accounts can have a far greater return than investments that are taxed. Let your investment grow for as long as possible, and you will be glad you started sooner rather than later. Choose your provider and start saving now. For more invaluable tips on saving and growing your money, follow our insightful blog posts.

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a 3D shield that is blue with a tick on it, protecting a brown wallet with cash and coins

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