The earliest that funds invested in an RA can be accessed is age 55, but that’s not to say they should necessarily be accessed when you reach that age, keeping in mind that you are free to access the funds at any stage after age 55 with no upper age limit. While there are many advantages to investing in a retirement annuity, many find the limitations when it comes to accessing their funds somewhat restrictive. If you’re tempted to retire from your RA when you reach age 55 so that you can invest your funds more aggressively through a living annuity structure, keep in mind that investment returns are not the only consideration. In this article, we explore a range of factors that should be taken into account:
Type of RA
The type of retirement annuity you have in place will have bearing on your decision to retire from it or not. For example, if you have an older, insurance-based retirement annuity, you are likely paying higher fees than you would if your RA was housed on a LISP platform. Further, these old-school retirement annuities are generally quite inflexible and not particularly transparent when it comes to investment returns, fee structuring, and early cancellation penalties. If you have an older insurance-based RA in place and are not yet ready to retire from it, you may want to consider transferring the investment onto a unit trust platform where you will benefit from reduced investment fees, a customisable investment strategy, and full transparency when it comes to investment performance. The process of transferring a retirement annuity takes places via Section 14 of the Pension Funds Act and your financial advisor should be able to assist you with the transfer. Once your RA has been transferred onto a LISP platform, you will be able to structure your new contributions to suit your personal circumstances – keeping in mind that you also have the option to not make any additional contributions towards your RA.
The impact of Regulation 28 on your retirement annuity investment is another factor that should be considered when contemplating formal retirement. To recap, Regulation 28, which forms part of the Pension Funds Act, is designed to protect investors against poorly diversified investment portfolios – and in doing so, limits exposure to riskier assets in one’s portfolio. If these limitations are hampering the investment returns you need in order to achieve your goals, you may consider retiring from your RA and investing your funds in a living annuity structure instead – which will allow you full investment flexibility with no limitations on your exposure to high-risk assets. However, before doing so, it is important to determine whether your RA enjoys a ‘grandfathered’ status, which effectively means that it is exempt from complying with the provisions of Regulation 28. Those retirement annuities which were taken out before 1 April 2011 – when Regulation 28 became effective – are not required to comply with these restrictions unless a material change to the contractual terms of the policy is made. As such, your ‘grandfathered’ RA may already be aggressively invested and aligned with your objectives, in which case there would be no need to retire.
When you retire from a retirement annuity, you are permitted to withdraw one-third of the investment as cash, while the remaining two-thirds must be used to purchase an annuity income for retirement. In terms of the retirement tax tables, the first R550 000 withdrawn is free from tax, while the balance will be taxed according to the following table:
|R0 – R550 000||0%|
|R550 001 – R770 000||18% of any amount over R550 000|
|R770 001 – R1 155 000||R39 600 + 27% of any amount over R770 000|
|R1 155 001 +||R143 550 + 36% of any amount over R1 155 000|
However, it is important to note that this tax relief is allocated once in a lifetime and once used up, cannot be claimed again. As draw-downs from a living annuity are limited to between 2.5% and 17.5% of the value of the investment per year, many investors use the one-third withdrawal option strategically to ensure that they don’t run into cashflow problems later in retirement. Alternatively, the withdrawn funds can be earmarked for large capital outflows in retirement such as overseas travel, vehicle upgrades, weddings, or home renovations. That said, keep in mind that once your capital has been invested in a living annuity, it cannot be withdrawn as a lump sum, and you are restricted to drawing an annuity income between 2.5% and 17.5% per year. While you can reinvest these drawings into a discretionary portfolio, there are tax implications in respect of these earnings. As such, your need for future liquidity and the tax implications of creating this liquidity must be carefully balanced against locking your funds into a living annuity and the future implications of doing so.
Before retiring from an RA, it is important to establish your income needs going forward, specifically when it comes to how you will be taxed on that income. For instance, you may be entering a form of semi-retirement which will require you to supplement your income using your invested capital, and it is important to be strategic about when to retire from your RA, where to invest the benefits, and how much supplementary income to draw. If you’re under the age of 65, your tax threshold for the current tax year is R91 250 and all income above that threshold is taxable. If you retire from your RA and set up a living annuity investment, selecting a tax-efficient level at which to draw down is important – while keeping in mind your cashflow needs for the year. Remember, you can only adjust your living annuity draw-down levels once a year (on the anniversary of the policy), so it’s an important decision to get right. Further, bear in mind that it may be more tax-efficient to retire from your RA later in the tax year as your earnings – and resultant income tax – are likely to be less. Another factor to keep in mind is that, if you’ve triggered a capital gains event in the tax year, it may make sense to postpone retiring from your RA to a subsequent tax year.
From an estate planning perspective, the only difference between having your capital invested in an RA as opposed to a living annuity structure is the certainty that the latter provides in terms of distribution of benefits in the event of your death. Remember, while your funds are housed in a retirement annuity, the distribution of your death benefits is governed by Section 37C of the Pension Funds Act and, while the fund trustees will take your beneficiary nomination into account, the ultimate distribution of those benefits may differ from your intentions. This is because the fund trustees are tasked with determining who is financially dependent on you at the time of death, and to allocate the funds in an equitable manner. On the other hand, if your funds are housed in a living annuity, your beneficiary nomination is absolute and those nominated will receive their inheritance as per your intentions. From a tax planning perspective, the funds held in both an RA and a living annuity are excluded for estate duty purposes and do not form part of the estate administration process. Thus, if the future financial security of your loved ones hinges on them receiving funds held in an RA, moving these funds into a living annuity may be something worth considering.
If there is a possibility that you may emigrate in the near future, you may want to think carefully before retiring from your RA. This is because once your funds are in a living annuity structure, they cannot be moved out of the country and your living annuity income will need to be paid into a South African bank account. As such, when considering emigration, it is important to consider the effects of emigration on your retirement savings. If you choose to leave your funds in a retirement annuity, you will be able to access these funds once you have not been resident in South Africa for an uninterrupted period of three years, although bear in mind that they will be subject to tax.
Have a great day.