Do I have to purchase an annuity at retirement?
When I reach retirement age, must I invest my provident fund in an annuity, or can I just build a unit trust portfolio with an asset manager and draw a yearly “salary” of not more than 4%? Will there be any tax implications?
Answer
A provident fund (unlike a pension fund or retirement annuity ) allows you to take the full amount as a lump sum and you do not have to purchase an annuity. However, the tax implications are significant. You may qualify to receive the first R500 000 tax free (if you have made no withdrawals before retirement) but the rest is taxable as per the retirement tax tables.
For example, on R1 million you would pay R130 000 in tax. Any amount about R1 million would be taxed at 36%. This means you pay more than a third of your retirement fund to the taxman. If, however, you buy an annuity, there is no tax payable.
Apart from the tax on the lump sum, if you choose not to purchase an annuity and rather invest the money yourself outside of an annuity, then you will pay capital gains tax, dividend tax and interest income tax on your portfolio.
Within an annuity structure, these investment taxes do not apply, but you pay income tax on the income that you draw from the annuity. So you need to do a proper assessment before making the decision.
It may make sense to take the R500 000 tax-free portion (if applicable) and purchase an annuity with the remaining amount.
Help, my retirement funds are running out
I have been retired for less than 6 years and 18% of my investment capital has been wiped out. I draw 10% of my provident and it has only given me about 4% growth. I am considering moving to a guaranteed fund that gives me 7%.
Answer
It is impossible to draw down more than 5% of your retirement money each year and hope that it will last your whole life. According to the The Association for Savings and Investment South Africa (ASISA), if you draw 5% of your capital each year, then your income should only start to reduce after 30 years. If, however you draw down 10% of your capital each year, your income will start to reduce after seven years. This is based on a market return of 10% after fees.
If you switched to a fund with a 7% guaranteed return, it would not solve your problem as you would still see a reduction in your income after six years. If you were to reduce your drawdown to 5%, then your income would start to reduce only after 19 years.
Unfortunately, we have had very poor market returns over the last four years which has worsened the situation. In a weak market like the one we have been experiencing, even a 5% drawdown would start to reduce your income within 14 years. Hopefully the tide will soon turn and we should see improved returns from the market.
Hi Maya
As a GEPF member I would like to know if I can opt to take only the R500 000 take free amount and purchase a retirement annuity with the rest.
Secondly, please explain the importance of an annuity even if I am a member of GEPF. The reason for asking is someone I know only received an amount of R95 000 now in November after contributing for 30 years and her monthly contribution was R900.00 at retirement.
Thirdly, can I surrender my current annuity and invest it in another long term investment portfolio.
Kind regards
I need more information. Are you being retrenched or are you talking about this at retirement?
Have you seen the article I did on the benefits of the GEPF? https://mayaonmoney.co.za/2020/12/why-it-pays-to-be-a-member-of-the-gepf/
Hi Maya,
I am retiring and want to invest my retirement money in guaranteed compulsory and voluntary annuities. I just do not want the hassle about worrying about markets.
My question is on choosing the insurance company. Should I worry about the company remaining solvent, are there regulatory safeguards like compulsory underwriting or is it possible that the company I choose may fold and I get nothing in future?
Thanks,
Carl
Insurance companies offering annuities would be underwritten – South Africa has strong legislation in that regard. It is worth shopping around for the best rate. If you have had ill-health it is worth checking with JUST – they base their annuity rates on life expectancy and provide better rates for people with health issues.
Make sure you have an annuity that increases with inflation
Hi
I want to know if Old Mutual can charge capital gains tax on RA investments that I requested to be transferred to PPS (also RA)
No CGT should apply if it was transferred. Perhaps they are charging a surrender penalty?
Hi Maya
Is it permissible to transfer a public service retirement fund benefit to an overseas Individual Retirement Account on resignation from service without attracting Withdrawal Tax.
No – it has to be transferred to an “approved fund” to avoid tax. This does not include an IRA. However you could invest in a living annuity with all the underlying assets offshore
I am retiring June 2020 – pension fund. I am concerned about the current effect of Covid 19. My intention is to take the maximum one third tax free and to reinvest the balance with a draw down max of 17.5% annually as I am also concerned about prescribed investments into government entities. I would appreciate some comment.
I’ve just done an article on this – will be up next week. But you can also listen to the podcast out tomorrow – on my website. you need to check what your current portfolio is etc regarding the one-third withdrawal.
personally I think your concerns over prescribed investments is unnecessary. We have already seen agreements (government, unions and asset managers) that any discussion of investing in SOE bonds has to provide a decent return for the pension funds. Remember the unions have huge muscle in this regard and their members would be very upset if they did not stick to investment quality. This is unlike the National Government in the 1980’s that forced pensions to invest 40% into government bonds offering yields below inflation…
Thanks very much.
Hello Maya,
I am just over 3 years away from retirement and very stressed about my financial wellbeing when I retire. Apart from my monthly contributions to our work pension fund and an RA on a monthly basis, would you suggest I take out more policies or rather invest what I can, when I can on investments with guaranteed rates. I don’t have much at all and apart from having to work until I die, I don’t know how to solve the financial problem I currently face myself in. Will it work out more expensive in terms of monthly fees for more insurance and is that safer or not?
You need to maximize your tax deductions of 27.5% of total income. That will give you more money to save. You can invest via a low risk portfolio within a low cost RA.
But you probably need to start thinking about how you can earn extra income and defer your drawdown on retirement benefits
Thank you so much!
Hi Maya. My RA of the past almost 10 years is with old mutual and I am paying a heavy effective annual cost of 2.7 p.a. I contribute monthly around R285 for the RA. Is it late to change my RA for a cheaper price one. Or all prices are same out there.
that is expensive – even within Old Mutual there are cheaper options. It could be worth switching but find out about penalties first