Sunday Times 11 March 2012

By Brendan Peacock

Among the variety of antenuptial contracts designed to apportion a couple’s assets at the dissolution of a marriage, the accrual system has become popular for its apparent fairness in its view of how married partners accumulate financial wealth before and after they get married. But, while the accrual system may work very well in the event of a divorce, without enough foresight it can have drastic consequences for the surviving spouse in the event of the dissolution of the marriage through death.

When a couple marries out of community of property and chooses to use an antenuptial contract with the accrual system, the contract is designed to allow each party to be accountable for their own financial affairs while the marriage is in effect. At the point of the dissolution of the marriage, the value of each person’s estate at the time of marriage will be calculated and then adjusted for inflation over the term of the marriage. Then the monetary value of the smaller estate of the two will be subtracted from the larger, and the couple will split the difference, with the larger estate paying the smaller half of the difference in monetary value.

Typically some assets do not form part of an accrual contract, which can include those specifically excluded from the contract, inheritances, legacies and donations – including donations between the spouses – as well as any amounts paid to a spouse as damages from legal action.

 So far, so good in the event of a divorce.  The problem arises in the event of the death of a spouse, because the accrual contract precedes claims against the spouse’s estate by other family members or beneficiaries. The effect of having to settle the accrual claim before any other can leave the estate requiring the unnecessary liquidation of assets.

 Madelein Marais, a fiduciary services specialist at Private Client Holdings, said people seldom consider the unintended consequences of a death in the marriage. “An accrual claim in favour of the surviving spouse is a claim against the estate of the deceased spouse, and ranks as a liability that has to be paid before the estate passes onto the heirs or beneficiaries in terms of the will.  

 “On the other hand, if the accrual claim is against the surviving spouse, it is a claim in favour of the estate and regarded as property in the estate, which means the accrual claim needs to be paid to the estate by the surviving spouse.A situation can arise where the surviving spouse has to deal with the loss of their partner and then still be obliged to pay an accrual claim to their spouse’s deceased estate.”

 Marais said it was important to ensure there was liquidity in the estate to prevent a surviving spouse in this situation having to liquidate assets to settle the claim.She provided the following example to illustrate:

Both spouses bring no assets into the marriage. The surviving spouse accumulated an estate of R5-million while the deceased husband accumulated a large estate consisting of mostly fixed property and business interests.  His estate at the date of his death is worth R35-million.  He bequeaths his estate to his children of a previous marriage, but under the accrual system the surviving wife will be entitled to an accrual claim of R15-million (R35-million less R5-million = R30-million/2 = R15-million). This claim must be settled prior to heirs receiving their share. “Clearly there will be a liquidity shortfall in the estate that was not the intention of the deceased,” said Marais

 “It is imperative that your estate planner takes the accrual claim into account in the liquidity analysis.  If each spouse leaves their entire estate to the survivor, then the accrual will not cause a liquidity shortfall.  The difficulty comes in when the deceased leaves some or all of his estate to a third party,” Marais said.

 According to Marais, an accrual claim can be settled in cash or assets or a combination of the two.

In a situation like the example above, problems arise where there are only illiquid assets like immovable property and business interests that are bequeathed to third parties and not surviving spouse.

 How surviving spouse benefits

The estate-duty abatement is now portable between spouses on deaths that occurred on or after January 1 2010. This allows the estate of the surviving spouse to use any unutilised portion of the first dying spouses R3.5-million exemption, to pass on assets worth up to R7-million to their beneficiaries before the estate duty tax of 20% kicks in. Previously, if the first dying spouse did not utilise the R3.5-million abatement, it would be lost and could not be carried over for to benefit of the second dying spouse. The purpose of these changes is to ensure couples receive the maximum exemption, irrespective of when it is used. The surviving spouse needs to keep proper records because he/she will have to submit a copy of the first dying spouses estate duty return.

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It is important to realize that ultimate success in the creation of wealth will follow a series of ups and downs. It is more important to avoid the full impact of the “downs” than participate in the full extent of the “ups”. Firstly, this strategy will produce more in the pot at the end of the day and secondly you will experience a ride that is far more comfortable.

Thus, it is of critical importance that your portfolio is diversified across all asset classes in a manner that is appropriate to the amount of risk that you are able or willing to take on. The asset allocation decision is absolutely fundamental to delivering the maximum returns relative to risk. Only once you have determined the appropriate portion of the portfolio that ought to be exposed to equities should you start worrying whether that equity mix is producing the best returns. Now this is the fun part of my job!!

Analyzing shares in our in-house share portfolios and evaluating the various fund managers in our unit trust portfolios keeps me rejuvenated. It is this search for Alpha (returns in excess of the market) that makes my current life as an asset manager far more interesting than the activities of my earlier career as a tax specialist (which involved the tedious scouring of case law and new legislation for tax saving opportunities). Although, the Asian banking crisis, Toxic debt instruments, Dot Com and currency bubbles do keep me awake at night….

When looking for that extra return from shares the primary decision is how much sector exposure one would like and allocate to resources, industrials and financials accordingly. This decision, too, will drive performance more than the selection of a specific share. Then, within each sector one has to select specific shares. You could adopt various styles (eg Growth, value, momentum, etc) or a combination and could elect to purchase small, mid or large cap shares.

Small caps are basically shares in smaller, less-established companies. For many investors these offer a bit too bumpy a ride due to the volatility and risk, although there may be a bigger chance for growth. Mid cap shares are a popular investment because the companies have usually been through the growing pains that the small caps are yet to experience and are primed for potential growth. Large cap shares – or blue chip shares – are commonly more exciting to professionals because they are the safest and most trustworthy, strong and steady.

Diversification is vital and applies to the selection of asset classes, the selection of sector weights as well as investment styles. At PCH we don’t try get too clever with our stock-picking and generally stick to the fundamentally sound and logical investment stories with the aim of holding for the long term. More importantly though, it has been the right mix of attractive growth stories (MTN and Naspers, SAB and BHP Billiton) that has helped us to keep up with the market when commodities lead the way, underperform less in times of turbulence and occasionally outperform when the growth counters make their move. I am pleased to report that we have excelled in generating that elusive alpha.

The PCH Core Equity Portfolio revolves around a basic objective of providing long-term capital growth through a diversified portfolio of JSE-listed shares. The combination of a stable and relatively conservative sector weighting allocation together with a thorough yet not too aggressive stock-picking procedure has allowed the PCH Core Equity Portfolio to be better off in the bad times and to keep up and outperform in the good times – which all adds up to solid out-performance on a cumulative basis.

In fact this portfolio has consistently outperformed the JSE for the past 10 years!
The size of the market capitalization you choose to invest in has a great deal to do with your current financial situation and the amount of risk you’re willing to deal with.

Younger investors are often willing to take bigger risks, they are keen to roll the dice and hope to win big. In contrast, retirees are risk averse and choose more stable and consistent stock options.

Meeting with a financial professional to assess your needs and goals, is one of the first steps towards creating a plan for the future. While no one investment is perfect for everyone, certain investments can fit well for specific situations.

Date: Spring

Grant Alexander tells us what stocks are on his mind.

R5 000?
Satrix 40. We feel this is an easy and cost-effective way to gain exposure to the T(capital letter) op 40 counters of the JSE All-Share I(capital letter) ndex.

R10 000?
Satrix 40.

R50 000?
Billiton, Remgro and Standard Bank, which will give exposure to a reasonable number of underlying businesses.

R500 000?
Anglos, Billiton, Sasol and Exxaro in R(capital letter) esources; British American Tobacco, Mr Price, MTN, Naspers, WBHO in I(capital letter) ndustrials and Standard Bank, RMB and Discovery in F(capital letter) inancials.

R1 million?
In addition to the shares above, we would add some platinum exposure through Implats, some luxury goods as well as offshore exposure through Richemont and add Investec for it’s (without the ‘) attractive dividend yield and cheap entry point.

We would also recommend a healthy allocation to the DBX World T(capital letter) racker which provides exposure to the world’s largest companies for 2 main reasons – the first is that these companies are cheap relative to their emerging market peers and the R(capital letter) and is fundamentally overvalued.

What stocks/markets are you keeping an eye on?
Over the next 5 years the big money will be made in the global gorillas such as Pfizer, Microsoft and Berkshire Hathaway. We have the currency, relative valuations and mean reversion on our side.

We also have (replace “run”) an Opportunities Portfolio (replace “model”) which includes a few prospects that includes the likes of Grindrod, Hudaco and Basil Read who are all well geared for a further pick-up in economic activity and a recovery in earnings levels.

What are your goals when investing?
To achieve superior returns at lower risk from a diversified portfolio of investments over the long term.

What was the best investment decision you have made to date?
Buying Mr Price and Naspers at the beginning of 2005, which have both increased by over 4 times the original cost.