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If you’re nearing retirement age, it’s only natural to be scrutinising your pension savings to be sure you’re on track to meet your savings target. For many households this is also a time when long-standing commitments – whether a mortgage or your kids’ education – fall away, giving you some financial breathing room.
The prudent choice at this time, is to use that extra disposable income to boost your retirement savings. But, what’s the best way to do this within the constraints of South Africa’s pension and tax laws?
Recent changes to pension laws have synchronised the tax benefits and withdrawal limits at retirement for pension and provident funds. This means there are no real differences between these types of funds, which limit your lump sum withdrawal at retirement to one-third of your savings. If you’re invested in a pre-retirement investment, then your funds aren’t accessible until at least the age of 55. You do get a once-off pre-retirement withdrawal option from your preservation funds, but it is taxed at higher rates than withdrawals done at retirement.
Most recently, the three-year waiting period to access retirement annuities or preservation funds when you emigrate has thrown a further complication into the mix.
The truth is there isn’t a one-size-fits-all solution when it comes to choosing a path forward. However, we’ve considered three scenarios that paint a picture of what one might expect given certain factors and decisions.
In each case, we’ve assumed that you’re 55 years old (10 years from retirement), that you have a lump sum of R5 million, and that inflation averages 5% and annual investment growth is 8%, both before and after retirement.
For the purpose of this exercise, we haven’t made a distinction between the type of investment selected, nor the tax implications.
Head of Brenthurst Wealth Stellenbosch, Sonia du Plessis CFP®, points out that the tax relief on contributions to registered retirement products make a compelling case for staying within the regulated pension market. The long and the short of it is that this offers you immediate tax relief on your contributions up to 27,5% of your taxable income, or a maximum of R350 000 a year.
This benefit is yours as long as the retirement product complies with Regulation 28 of the Pension Funds Act. This is an attempt to diversify the risk in retirement products by setting thresholds for exposure to different asset classes and types.
Sonia says that if you have new-found disposable income that you want to put toward your retirement, then it makes most sense to max out your company pension fund contributions. The case for this approach is strengthened even further if you receive the fringe benefit of your employer matching your pension fund contributions, which effectively doubles your savings rate. Important to make sure that the underlying fund option you chose for your company pension fund, ties in with your risk profile. In other words, a 25year old employee`s pension plan should not be invested in a money market product.
Our scenarios show the impact that this strategy, and assistance from your employer, has on your savings if you’re 10 years from retirement.
Suzean Haumann CFP®, head of Brenthurst Wealth Tygervalley, points out the best strategy is going to vary from one person to the next depending on your circumstances and goals. For younger investors, for instance, she suggests that a discretionary investment could be most appropriate because there’s no guarantee they will stay in the country.
If that’s the case, then liquidity and unfettered access to your portfolio takes precedence. Many pension products either lock in your funds until at least 55, and recent changes to financial emigration laws tie up your retirement funds for three years.
However, that freedom of choice and movement might come at a financial cost.
The table below shows the benefit of investing in your company fund, if you have one, especially if your employer matches your contribution.
|Scenario||R5 000 000 / 10 yrs to
retirement no debit order
|R5 000 000 / 10 yrs to
retirement R10k debit order
|R5 000 000 / 10 yrs to
retirement R10k personal and
R10k employer debit order
|Projection end age||90||90||90|
|Years to retirement||10||10||10|
|Years after retirement||25||25||25|
|Lump sum / Initial investment||5 000 000||5 000 000||5 000 000|
|Monthly recurring contribution||10 000||20 000|
|Annual escalation rate, %|
|Assumed Rates (pre-retirement)|
|Inflation rate, %||5||5||5|
|Growth rate, %||8||8||8|
|Nominal growth rate after fees, %||8||8||8|
|Illustrative retirement values|
|Capital at retirement||10 794 625||12 595 868||14 397 110|
|Present value of capital at retirement||6 626 963||7 732 770||8 838 577|
|Post retirement growth rate, %||8||8||8|
|Income in first month of retirement||51 520||60 117||68 713|
|Growth in income (CPI), %||5||5||5|
|Income at retirement (present terms)||31 629||36 906||42 184|
In the first scenario we have projected the capital growth and monthly income at retirement that a lump sum of R5 million would deliver over 10 years.
If you were to contribute an extra R10,000 a month for the 10 years before retirement, your monthly income will be nearly 20% higher, while you can retire with one-third more income if your company matches your R10,000 contribution.
Arin Ruttenberg, financial advisor at Brenthurst Sandton, says you need to ask yourself some key questions to assess what your best approach will be. Most importantly, you need to consider your time frame, retirement goals and how likely you are to refrain from dipping into your savings.
His personal choice is for the flexibility offered by retirement annuities that you can select based on your risk profile and retirement goals. You’re also able to properly diversify your retirement savings if you hold a mix of ETFs, active funds or both.
And then, if you’ve reached your monthly contribution limit of 27,5% of taxable income, looking to a discretionary investment is a great way to boost your savings, he says.
As has been said, there’s no one solution that will suit everyone. If you have disposable income that you want to contribute toward your retirement, then it’s always best to consider that plan in consultation with a qualified financial advisor.
Making a commitment today to your future is the best investment you can make. Always consult with an accredited, experienced advisor for guidance.