But it can also have unexpected consequences with regard to your pension planning. If your new employer offers a pension or provident fund, and you are eligible to join, then you must become a member of that fund. Your new employer is required by law to make it a condition of your employment.
This is good news if you presently do not provide for your pension. A work place retirement fund is usually the most effective way to save, namely within a disciplined and cost-efficient environment and a structure that confers valuable tax benefits.
But if you already have alternate arrangements, there may be unforeseen consequences. The nature of these consequences (and your options) depends on your circumstances.
You are a member of your current employer’s retirement fund. You have three options on leaving: you can cash in, you can transfer to another fund, or you can choose a combination of the two.
We advise strongly against cashing in. Yes, it’s very popular in South Africa, so popular in fact that few can afford to retire, because they have (mis)spent their retirement savings ahead of time.
So don’t do it. Remember what this money is for: to support you in retirement, not to splash out on a holiday or a new car. Also remember that you “lose” not just your savings, but also the return you would have earned on those savings, compounding over the rest of your working life. That is a far bigger amount than you imagine.
Consider this example: you pay R1 000 per month into your fund and earn a net 4% real return (after costs and inflation). Over forty years, this investment would grow to R1.14m. But after ten years you change jobs and decide to upgrade your car with your savings, and to start saving afresh. At that point your investment is worth R144 000.
The consequence: on retirement you will only have saved R673 000, 41% less than before. That means a 41% lower pension! That car upgrade actually cost you R467 000, and possibly a comfortable retirement.
So, unless you are desperate, do not cash in. If you are desperate, remember that except for the first R25 000, the proceeds will be taxed (and at a higher rate than at retirement).
The sensible option is to transfer to another fund. This preserves your savings, your future return on those savings and the tax benefits attached to those savings. Again, you have some options.
If you belonged to a provident fund, you can transfer tax-free to your new employer’s provident fund OR to a provident preservation fund in your name.
If you belonged to a pension fund, you can transfer tax-free to your new employer’s pension fund OR to a retirement annuity (RA) OR pension preservation fund held in your own name.
The above is subject to fund-specific restrictions. You pay tax on the portion you do not transfer (other than the first R25 000).
A preservation fund is more flexible than an RA as it allows you to make one full or partial withdrawal before retirement; however, you will pay less tax if you wait until retirement (earliest age 55). But be aware that you cannot make contributions to a preservation fund.
Important: in your choice of funds, consider the relative cost of the funds (the lower the better – be sure you know ALL the costs), the investment style (on average, indexing beats active management) and the asset mix (it must be appropriate for your age and retirement date).
You currently contribute to an RA
Joining a work fund has tax and financial consequences if you presently contribute to a retirement annuity (RA) in your own name.
Tax consequences
Money that you put into any retirement savings, be it personal retirement annuity or via your company pension or provident fund is deducted from your taxable income (up to 27.5% and no more than R350 000).
Financial consequences
In light of your current contribution to an RA and the additional contribution to your work fund, you may need to reshuffle a few things depending on how much you can afford to save.
As you cannot opt out of your work fund (and possibly your work fund contribution rate), you must consider what you should do with your RA. Again, you have a number of options.
1. You can keep contributing at the contractual rate, if it is still within budget
2. Your RA provider may permit you to lower your contributions
3. You can stop contributing to the RA altogether (ie make it paid up) and instead increase the contribution to your work place fund (rules permitting)
4. You can transfer your RA (rules permitting) to another RA and contribute at a lower rate, or not at all
In making your decision, you should, first and foremost, compare the annual fee you pay your current RA provider to the annual fee you would pay either at your work fund (option 3) or at another RA fund (option 4). This is critical because the level of fees is the most dependable indicator of your retirement fund’s future performance.
Also compare the relative investment styles (either active management or indexing). Active management tries to beat the benchmark (market) return, indexing simply tracks the benchmark return. Learn more about active and index management styles in this video.
If you choose option 1 or 4, you stand to lose the tax deduction on your contribution, at least until the proposed retirement tax reform kicks in.
If you choose option 2, 3 or 4, you may incur a penalty or termination charge. Scarily, this can be as high as 30% of your investment balance, which deters many investors from switching. But it is important to understand the true nature of this charge, otherwise it may lead you to make the wrong decision. This article (Understanding the RA termination charge) will explore this more thoroughly.
In making your choice, you should go the route that promises to improve your long-term savings outcome. As you do not know which retirement fund or investment manager will give you the best long-term return, you should not speculate on this. Instead consider the factors that you do know: the fund’s investment style (indexing or active), total fund fees and the tax deductibility of contributions.
