Retrenchment can be a difficult and often unexpected event that can leave you facing significant financial decisions. While it can be an emotionally challenging time, taking proactive steps can help you regain financial stability. Below are the key financial considerations to keep in mind when navigating this transition.
Managing your retirement fund benefits
One of the most critical decisions you’ll need to make involves the money held in your employer’s pension or provident fund. If your retrenchment is due to operational requirements or your employer ceasing operations, your retirement lump sum is considered a ‘retrenchment benefit’ for tax purposes. Unlike voluntary resignation, this classification affects how your funds are taxed and the options available to you.
While preserving your retirement savings should be a priority, financial constraints may require you to access some of the funds to meet your immediate needs. Understanding your options can help you make the best possible decision for both your short-term and long-term financial security.
- Withdrawing your retirement funds: If you decide to withdraw your funds, be aware of the tax implications. The first R550,000 of your combined severance and retrenchment benefit is tax-free. Any amount beyond that is subject to tax at progressively higher rates. It’s important to note that if you have previously made taxable withdrawals from retirement savings, SARS will take those into account when determining the tax-free portion. While withdrawing funds may seem like a quick solution, it should only be done as a last resort to avoid jeopardizing your financial future.
- Preserving your retirement savings: There are several ways to preserve your funds, each with unique benefits:
Leaving funds in your employer’s retirement fund: If the fund rules allow, you may leave your money invested in the employer’s fund where it will continue to grow until you retire.
Transferring to a preservation fund: This option allows your savings to continue growing tax-free. Additionally, a preservation fund provides flexibility by allowing one full or partial withdrawal before retirement. However, additional contributions cannot be made to a preservation fund.
Transferring to a retirement annuity (RA): An RA enables you to preserve your capital and continue contributing towards your retirement, but you can only access these funds from the age of 55.
Transferring to your new employer’s retirement fund: If you secure new employment quickly, you may transfer your funds to your new employer’s pension or provident fund. Keep in mind that transferring from a pension fund to a provident fund can have tax implications, so professional advice is essential.
Making the most of your severance package
A severance package is the amount paid by your employer when your position is terminated due to retrenchment. According to South African labour law, employees are entitled to at least one week’s pay per completed year of service. However, your employment contract may specify additional benefits. In addition to the severance benefit, you may also receive outstanding leave pay, bonuses, commissions, or incentives owed to you. Like retrenchment benefits, severance pay is taxed according to the retirement tax tables, meaning that the first R550,000 of your combined severance and retirement lump sum is tax-free. Amounts above this threshold are taxed progressively, with any portion above R1 155 001 million taxed at 36%.
You have several options when it comes to managing your severance payout:
- Creating a cash reserve: If you are uncertain about your future employment prospects, it may be wise to place your severance payout in a liquid, interest-bearing account to cover essential expenses while you look for a new job.
- Investing for long-term growth: If you have sufficient cash reserves, investing your severance payout in a discretionary unit trust portfolio can provide potential growth over the long term.
- Reducing debt: Paying off high-interest debt, such as credit cards and personal loans, can improve your financial position and reduce monthly obligations. However, finding a balance between reducing debt and maintaining adequate liquidity is crucial.
Replacing your group risk cover
Retrenchment results in the loss of employer-provided group life and disability benefits. This can leave you financially vulnerable, particularly if you have dependants who rely on your income. Some group policies offer a continuation option, allowing you to convert your cover into an individual policy without medical underwriting. If you have pre-existing conditions, exercising this option can be beneficial, as it prevents insurers from applying exclusions or premium loadings. It’s important to act quickly, as most insurers provide a 60-day window to exercise the continuation option. If your group cover does not include this option, you will need to apply for individual life and disability cover. This may require medical underwriting, so securing cover while you are still healthy is advisable.
Ensuring continuous medical aid coverage
Medical aid coverage is essential, and a break in membership of more than three months can result in waiting periods and exclusions. If your employer provided an in-house medical aid scheme, you will need to move to an open medical aid scheme in your personal capacity. If you were already on an open scheme, you can remain on the same plan but will need to cover the premiums yourself. If affordability is a concern, consider downgrading to a more cost-effective plan rather than cancelling your membership. Before making a decision, compare the benefits of different plan options and assess how well they meet your healthcare needs.
Creating a sustainable budget
With your income reduced or temporarily halted, it’s essential to create a revised budget that aligns with your new financial reality. Identify essential expenses, such as housing, utilities, groceries, and medical aid premiums, and look for areas where you can cut back. Canceling non-essential subscriptions and reducing discretionary spending can help stretch your funds further. If you anticipate difficulty meeting financial obligations, proactively engage with creditors to discuss possible payment arrangements. Many financial institutions offer assistance programs, such as temporary payment holidays or reduced instalments, for individuals experiencing financial hardship.
Exploring alternative income sources
Retrenchment may present an opportunity to explore new income streams. Consider leveraging your skills and experience to generate additional income, whether through freelancing, consulting, or starting a small business. Online platforms offer numerous opportunities for remote work, and industries such as online tutoring, content creation, and e-commerce have seen significant growth.
For those with entrepreneurial aspirations, retrenchment may provide the push needed to turn a side business into a full-time venture. However, ensure that you conduct thorough market research and have a solid business plan before investing capital.
Maintaining perspective and seeking support
Retrenchment can be an emotionally taxing experience, but maintaining a proactive mindset can help you navigate this period more effectively. Surround yourself with a supportive network of family, friends, and professional advisers who can provide guidance and encouragement. If you experience significant stress or anxiety, consider seeking professional support. Many employee assistance programs offer retrenchment counselling services, and financial advisers can help you develop a plan to regain financial stability.
Retrenchment is a challenging experience, but with careful planning and informed decision-making, you can safeguard your financial future. Prioritise preserving your retirement savings, managing your severance payout wisely, maintaining essential insurance and medical cover, and exploring new income opportunities.
Have a lovely day.
Sue
