By: Jeff Miller, CEO Grovest
With the recent end of the last tax season, you probably heard a lot from Section 12J funds — as several of them head towards their latest capital raising rounds, that ended 28 February 2020.
The growing noise around Section 12J comes amid its rising prominence as the fastest growing alternative asset class in South Africa. Ever since Section 12J came into being in 2009, it’s been estimated that over R8bn has been invested in local Venture Capital Companies (VCCs.)
The strength of Section 12J is that it enables investors to receive tax deductions in return for providing much-needed capital to SMEs. At its heart, this legislation is about powering up the South African economy through funding entrepreneurs and helping to create much-needed jobs.
But while this asset class is heating up, many a prospective investor might be wondering where to start. Listed below are four overarching considerations an investor needs to bear in mind;
Your personal financial circumstance is a key factor in determining how you go about approaching Section 12J. As a starting point, your level of taxable income determines the tax benefit you receive in the year of investment. If you are in the highest tax bracket (45%), for every R100 000 invested into a Section 12J, you will receive a tax deduction of R45 000, which means that your risk capital is R55 000. Individuals and trusts can invest a maximum of R2.5m each year, while companies can invest up to R5m. Other key questions to consider include the percentage of your overall investment portfolio that are you willing to put into Section 12J, the kind of risk profile (high, moderate or low) you’re looking for, the investment time-frame of the fund, the capital growth or dividend yield you can expect to receive. An investment into a Section 12J VCC must be held for 5 years to retain the tax benefit.
General investment considerations
Once you’ve established your personal investment circumstances, you need to look at factors such as investment sector performance and growth considerations. Some sectors such as hospitality provide for medium risk and moderate growth. A Section 12J fund that is focused on building a new hotel can be expected to deliver reasonable and reliable returns over the long-term, while also spurring on the development of service providers and job creation in and around the hotel. On the other hand, higher risk sectors, such as tech-based funds, will naturally offer higher growth opportunities if they meet their full potential. Funds that operate in sectors like renewable energy have their own macro-economic policy considerations and are subject to changes in government policies – which work well for this sector.
Fund specific considerations
Each fund in the Section 12J space is unique. Apart from the fact that VCCs can operate in a myriad of sectors, they each have their own minimum investment amount – ranging from R100, 000 to R1 million. All funds also have different deployment timelines which are determined by the investment pipeline. In addition, a fund’s investment exit strategy, as well as its level of investment reporting, are key points for the investor to consider.
It is also essential to look at who the administrator of the fund is, as compliance, legislation, and governance are critical.
Fund Manager credentials
Finally, when looking at investment opportunities it’s important to look carefully at the Board of Directors when the fund was established, the previous levels of capital raised, the makeup of the investment team, the performance record of the Fund Manager, and overall reputation and credibility.
All of these considerations are key when it comes to deciding which Section 12J to invest in.
To learn more about Section 12J visit grovest.co.za.