National Treasury is gearing up to introduce a far-reaching change in the retirement industry through the implementation of the Two-Pot System for retirement savings. This system aims to strike a balance between the preservation of retirement savings and allowing members limited early access to a portion of the funds prior to retirement. As the launch of the new system becomes imminent, it is important for advisors, trustees, members, and administrators to understand its fundamentals.
The Two-Pot System is essentially the third phase in a set of retirement reforms that have been unfolding over the years, with changes to tax deductibility being implemented in 2016 and alterations to provident funds being made in March 2021. Central to the Two-Pot System, which applies only to those contributions made from 1 March 2024 onwards, is the division of contributions into three distinct components: the Savings Component, Retirement Component, and Vested Component. Notably, the terminology has shifted from the term ‘pot’ to the word ‘component, with each component being intricately linked to form an individual’s fund credit.
As legislation currently stands, retirement fund investors can withdraw all their savings when leaving their employment, which can detrimentally affect their financial futures. The pending changes seek to limit the amount that investors can withdraw and encourage preservation of funds for retirement. By way of explanation, the three different components are as follows:
The Savings Component
The Savings Component is the portion that an individual can access prior to. From 1 March 2024, a maximum of 10% of your existing retirement fund savings, capped at R25 000, will be transferred to your Savings Component, with this amount being referred to as the ‘seeding’ amount. From 1 March 2024, one-third of your retirement savings will be allocated to the Savings Component, while two-thirds will go to your Retirement Component. Going forward, members will be able to access their Savings Components once in a tax year, with a minimum withdrawal amount of R2 000, keeping in mind that withdrawals will be taxed at the marginal tax rate. At retirement, members will be able to withdraw the full balance in their Savings Component plus the portion of the ring-fenced amount that may be taken in cash.
The Retirement Component
The Retirement Component will be made up of all contributions made from 1 March 2024 onwards, plus fund returns and other credits. None of the funds held in the Retirement Component may be accessed before retirement. When a member reaches retirement age, they will have to use the full amount in the Retirement Component plus the ring-fenced amount in their Vested Component (being the retirement savings plus investment growth up to 29 February 2024) to purchase an annuity. The only exception to this is where the value of the Retirement Pot is less than R165 000 when a member retires, in which case he/she may withdraw the full amount.
The Vested Component
This component will house all contributions made up until 29 February 2024, plus fund returns and any other credit amounts. This means that individuals who were not part of a retirement fund before this date will not have a Vested Component. Provident fund members aged 55 or older as at 1 March 2021 can either stay and continue contributing to their current provident fund or move to the new Two-Pot System. Legacy-fund retirement annuity members will have the option to apply for an exemption from these reforms, bearing in mind that these policies were never designed to allow members to access their funds before the age of 55. The funds held in the Vested Component can be accessed on resignation, retrenchment, or upon retirement, with pre-retirement withdrawals being subject to withdrawal tax.
It is important to note that transfers will only be permitted if all components i.e. Vested, Savings, and Retirement, in a transferor fund, are transferred into the same transferee fund. Further, tax-free transfers within the same fund are permitted from the Vested to the Retirement Component, as well as from the Savings to the Retirement Component. Additionally, tax-free transfers extend across funds, including transfers from Vested to Vested, Savings to Savings, Vested to Retirement, and Savings to Retirement Components. However, it is important to note that all three components must be transferred to the same recipient fund.
By way of summary, the new Two-Pot Retirement system involves the following:
- Phase one of the new retirement system will begin on 1 March 2024.
- Existing member rights are retained in the Vested Component in respect of contributions, returns, and other credits as of 29 February 2024.
- New contributions from 1 March 2024 will be divided between the Savings and Retirement Components. Provident fund members who were 55 or older on 1 March 2021 can opt to contribute only to the Vested Component, excluding Savings and Retirement Components.
- Component-specific growth and returns will remain within their respective components.
- The Savings Component’s seeding will be capped at the lesser of 10% of the Vested Component’s retirement interest as of 29 February 2024 or R25 000.
- At retirement, members can withdraw Savings Component and Vested value in cash, subject to the retirement lump sum benefit tax table.
- After 1 March 2024, transfers of Savings or Vested Components to Retirement Components are possible within the same fund or during transfers to another fund, but partial transfers are not permitted.
- Members are permitted to make one withdrawal from the Savings Component per tax year which will form part of their annual taxable income.
- Deductions from pension interest in a divorce court order apply mainly to Vested and Retirement Components.
- Certain legacy retirement annuity fund policies taken out before 1 January 2022 will be excluded from these reforms.
- The Retirement Component must be used to purchase an annuity, except where two-thirds of the Vested Component and the full Retirement Component is less than R165 000 in which case full commutation can be chosen.
While the introduction of these changes is a welcome development, it is evident from above that there are a number of complexities involved, and members are advised to seek guidance from a financial advisor.
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