Have I taken full advantage of my retirement funds before and after retirement?

by James Robinson | 29,Oct,2024 | Alexforbes, Personal Financial Planning, Q4 2024

George Brown

Retirement funds, whether a pension, provident or retirement annuity before retirement and living annuities after retirement, have a general lack of appeal due to their perceived complex nature and inflexibility. However, the advantages can often far outweigh the disadvantages. There are several retirement fund benefits that you can make use of throughout your working life and in retirement.

Section 10C of the Income Tax Act

As many readers may know, there is a tax benefit on contributions made to retirement funds like pension funds, provident funds and retirement annuity funds. However, the deduction is capped at 27.5% of taxable income, with a maximum limit of R350 000 per annum.

Section 10C allows for any excess contributions made in a year to roll over into the following tax years so that the benefit is not lost.

 

Fixed income hedge funds take this concept even further by employing sophisticated strategies to optimise returns while managing risks. These funds may take long and short positions in fixed income securities, use derivatives like futures and options, engage in repurchase agreements (repos), and even delve into currency and commodity markets to enhance portfolio performance.

The advantages of investing in fixed income include the following:

Example of Section 10C benefit before retirement
Xolile earns a gross income of R1 000 000 for the year. She contributed R300 000 to a retirement fund.

Since only R275 000 is tax-deductible (27.5% of R1 million), she has an excess contribution of R25 000. This R25 000 will be carried forward and offset against her earnings the following year, with    her tax liability reduced accordingly.

Example of Section 10C benefit at retirement
Xolile has a company pension fund worth R10 000 000. R1 000 000 of this amount is an excess (disallowed) contribution.

Xolile can take 1/3rd of her pension fund in cash at retirement. She therefore has the option to take the full R1 000 000 tax-free, with no effect on her retirement benefit table. Any additional cash she takes will be taxed on the retirement tax table, which taxes benefits on a scale between 0-36%, depending on the amount taken. She decides to takeR1 000 000 in cash and an additional R550 000 tax-free to boost her savings. This amount can now be used to supplement her taxable income in retirement. It may be possible to structure her income from her living annuity and this amount in such a manner that it saves her income tax over her lifetime.

Another option is for Xolile to transfer the full R10 000 000 into a living or life annuity and still have R1 000 000 worth of excess contributions to reduce her income tax going forward. This allows for reduced or no tax on income from the annuity in her first few years of retirement, ultimately boosting her retirement cash flow. If she receives R600 000 income per year in retirement she will not pay income tax in the first year and she can use the last R400 000 excess contribution to reduce her taxable income considerably in the second year.

Retirement savings during retirement

Often overlooked in a financial plan is the use of a retirement annuity during retirement. Those with surplus funds after their working careers can use contributions to retirement funds like a retirement annuity to their advantage.

When a person dies, cash or investments form part of their estate. Investment growth in discretionary assets is subject to tax on dividends, capital gains and interest, after exemptions. To reduce the potential estate duty liability at death, and benefit from tax-free growth on an investment, a person can invest in a retirement annuity. While the annual tax deduction is still capped at 27.5% of taxable income, with a maximum of R350 000 per year, the growth in the retirement annuity is not subject to tax which can improve investment outcomes. The retirement annuity’s value is excluded from the estate, The trustees of the retirement annuity will make the final distribution of the benefit to the beneficiaries and the beneficiaries can take the money after tax or set up an income or a combination of both options.

The benefit of a living annuity for planning

A living annuity is a product that provides an income in retirement. It is set up with money from pension and provident funds as well as preservation funds and retirement annuities.

The client decides on the income annually and it can be reviewed annually. The income draw has to be between 2.5% and 17.5% of the capital. Client can therefore draw the minimum of 2.5%, which is subject to income tax, and take the rest of their income from discretionary assets, which is not subject to income tax any more to reduce the overall tax liability.

There are no limits on how much one can invest offshore and in equities within living annuities. Clients can opt for unit trusts, self-managed share portfolios, passive funds or even cash. The income can be paid overseas. The growth in a living annuity is also not subject to tax on dividends, interest or capital gains which benefits the growth and income sustainability.

Beneficiaries are nominated by the client and do not require validation by a will or executor or a board of trustees as with pre-retirement products. The beneficiaries can decide to take their money in cash after tax, as an income or a combination of both. It is important to discuss these options with beneficiaries to explain which option will be the best for them.

The biggest advantage is that, if the beneficiaries choose a living annuity (rather than a trust), the estate duty on the allocation is zero. If non-retirement funds are left to an individual, estate duty can exceed 20% after any abatements or other deductions.

This shows that there are benefits to retirement products not only before retirement but lifelong. It is always advisable to seek professional guidance from an accredited financial adviser.

James Robinson
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