While the primary objective of a living annuity is to provide the annuitant with a flexible income stream in retirement, living annuities are particularly effective estate and tax planning tools. As such, it’s important to understand the rights and options available to beneficiaries in the event of the annuitant’s death. In this article, we unpack what beneficiaries need to know, what choices they have, and what tax implications may arise.
At the outset, keep in mind that where the annuitant has nominated beneficiaries to their living annuity, the funds held in the investment will fall outside of the deceased estate and will devolve directly on the beneficiaries. In terms of the Long-term Insurance Act, the annuitant may nominate one or more beneficiaries to receive the remaining value of the living annuity on death, meaning that a living annuity is both a tax-efficient estate planning tool and an effective way of leaving a financial legacy to loved ones. This is because, in bypassing the estate administration process, the funds in a living annuity are not estate dutiable nor subject to executor’s fees. In addition, the nominated beneficiaries are able to access the funds fairly quickly without having to wait for the estate to be wound up.
Conversely, if no beneficiaries have been nominated, the proceeds of a living annuity fall into the deceased’s estate where they will be estate dutiable and subject to executor’s fees. The proceeds will be administered either in accordance with the annuitant’s last will or, in the absence thereof, according to the laws of intestate succession.
In circumstances where the annuitant has nominated beneficiaries to the living annuity, the options available to those beneficiaries are as follows:
Option 1: Take the full benefit as a cash lump sum
A beneficiary has the option to withdraw the full value of the living annuity as a once-off cash lump sum, keeping in mind that the lump sum will be taxed in accordance with the retirement tax tables as they apply to the deceased annuitant:
- R0 – R550 000: 0%
- R550 001 – R770 000: 18% of taxable income above R550 000
- R770 001 – R1 155 000: R39 600 + 27% of taxable income above R770 000
- R1 155 001 and above: R143 550 + 36% of taxable income above R1 155 000
As is evident from the above, the tax rates are progressive, starting at 0% tax for the first R550 000 of cumulative lump sum withdrawals and increasing to 36% for amounts exceeding R1.155 million. Bear in mind, also, that the tax calculation takes into account all previous lump sum withdrawals made by the beneficiary across all retirement funds, including severance benefits. When a beneficiary selects this option, they can request that the living annuity administrator prepares a tax simulation for them so that they can fully appreciate their tax liability upfront.
When is this option appropriate? This option may be appropriate where the beneficiary has an immediate need for capital—such as settling debts, covering education or medical costs, or investing in a business—and is comfortable with the associated tax liability. It is also a common choice where the beneficiary is relatively young and would prefer to manage the proceeds outside of the restrictive retirement framework.
Option 2: Transfer the benefit to a new living annuity
Living annuity beneficiaries have the option to use their share of the proceeds to set up a living annuity in their own name, following which they will then become the annuitant. As the annuitant, they will need to choose a drawdown rate between 2.5% and 17.5% of the capital per year, subject to annual revision. It’s worth noting that the beneficiary has the option to transfer their portion of the annuity to an existing living annuity if they already have one in place, thereby allowing them to consolidate their retirement assets. From a tax perspective, no tax is payable on the transfer into the new living annuity, but income will be taxed at the beneficiary’s marginal tax rate.
When is this option appropriate? This option is generally suited to beneficiaries who wish to preserve the capital for long-term income generation, particularly those already in retirement or approaching retirement. It is also ideal for individuals seeking a tax-efficient method of drawing a regular income while allowing the underlying capital to remain invested.
Option 3: Select a combination of lump sum and annuity income
Lastly, beneficiaries can elect to take a portion of the benefit as a cash lump sum, subject to the tax tables above, and transfer the balance into a new living annuity. This hybrid approach can provide a useful balance between accessing a capital amount and securing an ongoing income (subject to the beneficiary’s marginal tax rate), although it’s important to get the drawdown rate correct to ensure that the income is sustainable into the future.
When is this option appropriate? This blended option may suit beneficiaries who require some immediate liquidity—for instance, to fund once-off expenses—while still wanting to retain a portion of the capital to generate ongoing retirement income. It provides flexibility while ensuring that some of the benefit remains within the tax-advantaged retirement system.
On the passing of the annuitant, the beneficiaries will need to provide the annuity provider with the necessary documentation to process the death claim. This would include a certified copy of the death certificate, a copy of the deceased’s ID, the beneficiary’s ID, bank confirmation letter, completed beneficiary claim form, and proof of address. If the beneficiary elects a new living annuity, the provider will also require signed annuity application forms and investment instructions.
While most living annuity providers aim to finalise the death claim within a couple of weeks, bear in mind that delays can occur if any documentation is missing or if the nomination forms are not in order. Annuitants are therefore encouraged to review and update their beneficiary nominations regularly.
Before making any decisions, our advice is for beneficiaries to seek financial advice from an experienced planner so as to avoid any unintended tax consequences. A financial advisor will be able to guide you on the most tax-efficient structuring of your benefit while taking into account cash flow needs, previous lump sum withdrawals, future income needs and long-term planning.
Have a super day.
Sue
