How to end up with the right retirement income: Part 3: Post-retirement
Over the past few months we’ve looked at different ways to help you save enough money to retire comfortably. While having sufficient capital as you enter your retirement years is important, it’s equally important to work wisely with your savings to ensure that they don’t run out. As we approach the end of our series on retirement planning, our last few articles will look at different ways to help you carefully manage your post-retirement savings. To start off, we’ll unpack some of the key features that underpin the post-retirement process. Understanding what they mean and how they work is the first step to being able to make well-informed decisions about your future finances.
What are your options at retirement?
If you are a member of a Pension or a Retirement Annuity Fund, you have the option to either:
- Take up to one-third of your retirement benefit as a cash lump sum and use the remaining benefit to purchase a pension-providing vehicle (also referred to as an annuity); or
- Forego the cash lump sum and use the full benefit to purchase an annuity.
The minimum annuity threshold is currently R247 500. This means that if your retirement benefit is less than the threshold amount you may be allowed to take the full benefit in cash.
The rules around retiring from a Provident Fund are slightly different. Within a Provident Fund you can take up to 100% of your retirement benefit as a cash lump sum. If, however, you decide to take only a portion in cash (or skip the cash option altogether), the remaining benefit will need to be used to purchase an annuity.
Worth noting is that the government is considering changing the rules regarding the annuitisation of Provident Fund retirement benefits from 1 March 2018, to bring them in line with those of Pension and Retirement Annuity Funds.
What are the different types of annuities?
There are two broad types of annuities to choose from, Living Annuities and Guaranteed Annuities. Below is a high-level overview of some of the key features of the two products:
Within a Living Annuity you have the benefit and flexibility to choose the underlying investments that make up the value of your policy. You are also allowed to choose the amount of income you receive on regular basis that derives from the investments – this can range between 2.5% – 17.5% of the total value per year), and you can change this percentage once a year on the anniversary of your policy. When you die, your beneficiaries have access to the remaining benefit. The value of your Living Annuity is not guaranteed and is determined by your underlying investments and the income that you draw. This means that you run the risk of depleting your capital over time if it is not managed correctly.
Guaranteed Annuities are designed to pay you an income for the remainder of your life, no matter how long you live. They and are generally sold by insurance companies since you are effectively buying insurance (rather than investing your retirement capital). The income that you receive is based on a number of factors, such as how long the insurer expects you to live and the type of annuity that you purchase. Because the insurer guarantees your income, the income amount is often far lower when compared to the higher income options found within a Living Annuity. However, there is no risk that you might outlive your capital Following your death there is no payout to your beneficiaries, although there are certain options you can add to your policy (at a premium) to allow your beneficiaries to continue receiving an income after your death.
What taxes will you be required to pay?
Although the portion of your retirement benefit that you annuitise (i.e. use to purchase an annuity) is not subject to tax, the income that you receive from an annuity is taxable based on your age and income amount.
If you decide to take a cash lump sum at retirement, the cash amount will be subject to tax as per the tax rates found within the Retirement Fund Lump Sum Benefits or Severance Benefits Tax Table. Currently, the first R500,000 is taxed at 0%, thereafter the lump sum is taxed in bands of 18%, 27% and 36%. Important to note is that tax is applied on a cumulative basis. This means that previous retirement fund lump sum benefits and certain severance benefits may be taken into account when calculating your total tax liability.
In summary, there is a lot to consider when deciding on a post-retirement option. Knowing whether or not to take a cash portion at retirement or which annuity option to purchase can be difficult. While the above provides a high-level overview of some of the key features, it’s a good idea to consult with an independent financial adviser to structure a post-retirement plan that’s right for you (and your family).
The Prudential Income Portfolios (PIP) offers retirees a carefully managed range of fund-of-funds designed to meet various income needs. The portfolios comprise of several underlying Prudential Unit Trusts that are actively managed to produce a specific level of income while also aiming for capital preservation and growth over time as a secondary objective. For more information, contact your Financial Adviser or our Client Services Team on 0860 105 775 or at email@example.com.