Question:
I am fifty eight years old and my pension benefits are currently standing on R2 547 948.90 as at 01.11.2012 and I wish to retire in 2014. What tax am I liable for if I take R840 892.00 as a lump sum portion of my pension and what options are available to invest the remaining R1 765 000.00? What would the return on this amount be and is it taxable?
Answer:
Jabulani,
You will pay retirement lump sum tax of R113 640 on R840 892, so you will get out R727 251. This assumes you have not previously withdrawn from a retirement fund.
You can invest the balance of your pension fund in either a living annuity or a conventional annuity. Your annuity income is taxed according to the personal income tax tables prevailing at the time. You can choose between two types of annuities: a guaranteed life-annuity or an investment-linked living annuity (Illa).
A guaranteed life annuity (also known as an underwritten or traditional annuity) will provide you with a specified monthly pension for the rest of your life. You must purchase this annuity from a life assurance company, which assumes the longevity risk (the risk that you live longer than expected) as well as the investment risk (earning sufficient return on your capital to pay your pension).
The full pension is paid until you die. The drawback is that your capital dies with you, and no money passes onto your heirs. That is your risk: you (or, rather, your heirs) forfeit your savings in the event that you die sooner than expected (unless a guarantee or life assurance is built into the contract).
Annuity rates (the pension that you receive) are variable and can differ from one life assurance company to the next. As you may receive a different income for the same amount invested, you should shop around for the best available rate at the time.
Life assurance companies consider a number of factors in determining your annuity rate:
- Your age: the younger you are, the longer you are likely to live, and hence the lower your monthly pay-out.
- Your gender: women have a higher life expectancy than men, on average, and therefore receive a lower pension.
- Interest rates: the higher the prevailing interest rates, the higher your monthly pension is likely to be
- Your choice of annuity: you have a number of product options, with different risk profiles. In general, the less uncertainty you are willing to accept in respect of your monthly pay-out, the lower your annuity is likely to be.
An living annuity is not really an annuity; rather it is an investment product that transfers the risk and responsibility of securing an adequate income for life onto your shoulders. In return, you have greater flexibility, more control over your financial affairs, and your heirs inherit whatever is left of your capital after your death (ie your capital does not die with you).
In selecting a living rather than a guaranteed annuity, you decide how to invest your savings. You can switch as much as much as you want within the basket of investments offered by your product provider (the investments are typically unit trust or multi-manager funds). The returns will depend on your asset allocation (your mix of shares, bonds and cash), the performance the market, the performance of your fund relative to the market and the fees you pay.
Every year you must draw a pension from your investment. This so-called draw-down must be at least 2.5% but no more than 17.5% of the annual value of the residual capital. Your draw-down rate can change from year-to-year.
Unless you have the necessary investment expertise, you should consult a reputable financial advisor on the appropriate draw-down rate and asset allocation.
Your heirs inherit any residual value after your death; they can choose to receive a lump sum, an ongoing annuity or an accelerated annuity (paying out over five years).
Illas are offered by banks, collective investment schemes (such as unit trust management companies), life assurance companies and registered pension funds, but are classified as life assurance policies.
You are entitled to switch between product providers at any stage, but you should do so only for sound reasons, such as an increase in costs, poor service or inappropriate investment choices.
Illas are mainly sold through Lisps (linked-investment service providers). Lisps are essentially administrators who invest your money according to your instructions. They then track the performance of your investments. Lisps do not provide financial advice and you normally have to deal with them through a registered financial adviser.
An Illa is riskier than a guaranteed life annuity. A guaranteed life annuity will provide you with monthly income for the rest of your life. You have no such certainty with an Illa as you assume the longevity risk (the risk that you last longer than your savings).
Costs are an important consideration with any investment, also for a living annuity. These products are potentially very expensive. You can expect to pay initial fees, annual fees, transaction charges and investment management fees.
