Higher Interest Rate = More Retirement Income.
Now what about Tax?

What is the effect on you when the Reserve Bank decides it needs to raise the interest rate further to curtail inflation?

The market forces of demand and supply determine the price of a commodity. The price of money, which is interest rates, is determined in the same way.

When the demand for money exceeds supply, the price of money will increase.

The recent increases may make it necessary for you and your financial planner to review your financial plan to maximise any opportunities.

For retirees with capital, the Reserve Bank's decision to raise interest rates provides a windfall. For those who are invested in a cash fund or fixed deposit, it is a good time to assess the appropriateness of your money market and cash investments.

Increased interest rates favour investors, most often pensioners, who have money market and cash investments as they will now be receiving a better interest rate or return on their capital. However, investors need to be careful as an increased return on your investment may push you above the tax-free interest exemption.

The interest exemption for individuals under the age of 65 is R19 000, and for individuals above the age of 65 is R27 500.

Assuming an interest rate of 12% a year (remaining constant for the year), an individual under the age of 65 should not have more than R158 000 invested in discretionary interest-bearing assets. For an individual over the age of 65 this amount should not exceed R229 000.

If you have been pushed above the interest exemption it may be necessary to change your asset allocation in favour of non-interest-bearing assets to ensure that you are not going to pay more tax than necessary.

Importantly, you should revisit the tax structuring of your portfolio. Increased rates will mean that your interest-bearing assets are producing a higher rand return. The increased return may also mean higher tax.

A method of countering this is to ensure that your cash exposure in excess of the interest rate exemption is predominantly held within a retirement fund.

The reason for this is that retirement funds tax has been abolished. Therefore, any interest earned within a retirement fund is tax-free.

You should also assess your asset allocation, especially your exposure to bonds and property. Generally speaking, there is an inverse relationship between the interest rate and the price of bonds and property.

This means that when rates increase the price of bonds and property decrease.

The common perception currently in the money market is that we are due for further hikes, and it is for this reason that most asset managers are reducing their portfolio exposure to bonds and property.

If you don’t already have a money market or cash investment now may be the time for some exposure to these investments.

There are approximately 20 money market funds to choose from. A financial planner can assist you in choosing an appropriate fund.

Now for the bad news: it has been said time and time again that South Africans are a nation of spenders. What makes matters worse is that, in most cases, we finance our spending by loans.

The high household debt levels (household debt expresses the ratio of household debt to disposable income) is evidence of the excessive spending on credit. Household debt levels are at record levels of 78%.

If you have purchased anything on credit, an increase in interest rates will result in an increase in your instalments.

It may be necessary for you to revisit your budget, and ensure that your cash flow can cope with the increased instalments.

Given that further increases are expected, it would be prudent to provide for further instalment increases.

If you are about to finance a property or any other asset using a bond, you need to shop around for the best deal. Also ensure that you are paying the best rate on any existing bonds.

Banks offer variable, fixed or capped rates. Your choice of option will depend on your expectation of what will happen to interest rates.

Increased interest rates should not put you off purchasing a property, but you do need to be more circumspect. They also lead to more foreclosures and repossessions. I advise anyone who cannot make their repayments to contact the lender before they contact you.

Any changes trigger the need to revisit your financial plan. Engage a certified financial planner who follows the six-step financial planning process as recommended by the Financial Planning Institute (FPI).

Such a financial planner will review and monitor your portfolio on a regular basis and determine what actions need to be implemented. Visit the website of the FPI on www.fpi.co.za to select a qualified certified financial planner if you do not already have one.

Debbie Netto-Jonker, CFP™, is founder of Netto Financial Services and was Financial Planner of the Year in 2001.