One of the most common complaints I receive from pensioners is that they pay tax on their retirement benefits.

While one can sympathise with the plight of pensioners who often struggle to come out on their retirement income, one needs to understand the tax structure for retirement funds.

South Africa follows an “Exempt-Exempt-Taxable” (EET) regime, where contributions are deductible from your income and returns on your retirement investment are exempted from taxation, but benefits are treated as taxable income upon withdrawal or retirement. 

Contribution paid by the member is allowed as a deduction

During your working years, the contribution you make to your GEPF fund (or any retirement annuity) is tax deductible, subject to a limit of 27.5% of your income to a maximum of R350 000. This has the benefit of lowering your overall tax rate and taxable income during your working life.

For example, if you are under 65 years of age and have an annual taxable pensionable income of R300 000, in the 2022 year of assessment you would pay R44 990 in tax. If you contribute 7.5% of your salary to your GEPF fund, this would equate to R22 500 a year (R1 875 a month).

This is deducted from your salary and reduces your taxable income to R277 500. Now you only pay R39 140 in tax, which is a R5 850 (R44 990 minus R39 140) saving.  This is why we say the taxman partially funds our retirement. The more you contribute to retirement, the bigger your tax saving.

Contributions paid by your employer for your benefit (as a fund member) are taxable fringe benefits in your hands. However, you are treated as having made the contribution by your employer, so you can claim a deduction in respect of those employer contributions.

No tax on growth on the retirement fund

During your working life, your retirement fund grows tax free. This means there is no capital gains tax, no tax on interest and no dividend tax. Over a 30-year period, this could provide up to 30% more value at retirement because you did not pay those investment taxes.

The reason for these tax breaks is to encourage people to save for retirement. If you cash in your retirement fund when resigning, then the government wants to claw back some of those tax breaks.

That means you will pay tax on any withdrawal greater than R25 000. The withdrawal tax tables increase on a sliding scale, so the greater the amount you withdraw, the higher the percentage you pay in tax.

If, however, you are retrenched, then you can receive a total retrenchment package of R500 000 tax free, if you did not previously receive any other lump sums.

Tax on retirement income

The R500 000 tax-free amount applies to a lump sum commuted at retirement, as long as you did not receive any previous lump sums.

However, once your retirement benefit is used to provide you with a monthly income (pension/annuity), it is treated like any other income you may receive – in other words it becomes taxable. Remember this is not a double taxation as you received a full tax deduction on the contribution when you submitted your tax return while in employment.

The only good news for pensioners is that the percentage of tax paid reduces once you reach the age of 65 and again at the age of 75 as the tax thresholds increase at these ages. The tax thresholds for the 2022 tax year are as follows:-

Remember, when it comes to retirement planning, make sure you work on your after-tax income to calculate whether your income will be sufficient.

This article first appeared in City Press.