What happens to your retirement savings when you die?

Retirement products are complex and understanding what happens to the funds in the event of death can be complex. The distribution of retirement fund benefits depends largely on the nature of the product, the applicable legislation, and the will of the retirement fund member. Here’s what happens to your retirement fund benefits when you die:

Pension, provident, preservation and retirement annuity funds

All pre-retirement products, including pension, provident, preservation and retirement annuity funds, are regulated by the Pension Funds Act, and the distribution of these funds in the event that a member dies before formal retirement is strictly governed by Section 37C of the Act. This section places a duty on the retirement fund trustees to ensure that the member’s death benefits are distributed fairly and equitably amongst his financial dependants and/or nominees, meaning that a member’s nominated beneficiaries may not necessarily receive a portion of the death benefit. This is because a member’s death benefits must be used to provide for the member’s surviving spouse, children, and other financial dependants in the event of his death. As retirement fund death benefits are paid directly to the member’s beneficiaries and/nominees, these assets fall outside of the deceased estate and are not subject to estate duty.

Where a member dies before retirement age, the retirement fund trustees are required to identify and trace the member’s dependants, and to allocate the death benefit according to their respective financial needs. Once the beneficiaries and/or nominees have been identified and the death benefit has been apportioned, the beneficiary and/or nominee may choose to receive the death benefit in the following ways:

Option 1: The beneficiary can take a cash lump sum which is subject to tax, keeping in mind that the first R500 000 is tax-free, assuming no previous lump sums was received. The balance will be taxed in the hands of the deceased on a sliding scale between 18% and 36%.

Option 2: The beneficiary has the option of using the capital to purchase a life or living annuity and, while no tax will paid when purchasing the policy, the annuity income will be taxed in the hands of the beneficiary.

Option 3: Lastly, the beneficiary can choose to implement a combination of the above.

Where the retirement fund member makes no beneficiary nomination and has no financial dependants, the fund’s trustees are required to wait for a period of 12 months in case any untraced dependants come forward, failing which the benefit will be paid into the deceased estate.

Life annuities

A life annuity, which is an insurance-based product designed to provide a guaranteed monthly income until the death of the annuitant, is in effect a life policy and, as such, comes to an end on the death of the policyholder. In general, when the annuitant dies, the insurer stops paying the monthly income and the policy effectively dies with the annuitant, leaving no capital payable into the deceased’s estate. In the case of a joint life annuity, the insurer continues to pay an annuity, or a percentage thereof, until the death of the second spouse (or second life assured), at which point the insurer stops paying the annuity and all capital is kept by the insurer. In both instances, the value of the life annuity is excluded from the deceased estate.

The process is slightly different in the case of a fixed term life annuity where the annuitant guarantees his annuity income for a period of, for example, ten years. In such a case, if the annuitant dies before the end of the term, the remaining annuity income, being effectively a life policy, will be considered deemed property in the annuitant’s deceased estate and, as such, may be estate dutiable. Generally speaking, on the death of the annuitant, the insurer will capitalise the future annuity payments and pay the amount into the deceased estate. The executor of the estate will distribute the proceeds as per the deceased’s Will or, failing that, in accordance with the laws of intestate succession.

Living annuities

A living annuity is an investment product held in the name of the annuitant. Even though living annuities are referred to as ‘policies’, they are in fact not insurance-based products. The annuitant owns the investment and assumes all longevity and investment risk. Living annuities provide the annuitant will complete investment flexibility over a range of investment products, and the annuitant can set a draw down rate annually that is in line with his income needs. Living annuities issued in the name of the investor do not fall within the ambit of the Pension Funds Act and, as such, the distribution of living annuity benefits is not governed by Section 37C.

As such, the owner of a living annuity can nominate the beneficiaries to his investments and, in the event of his death, the funds remaining in the living annuity will be paid directly to his beneficiaries within a couple of days. The annuitant can nominate a testamentary or inter vivos trust as beneficiaries to his living annuity where the trust’s beneficiaries are natural persons. Where a beneficiary has been nominated, the funds in a living annuity will bypass the deceased’s estate and will not be subject to executor’s fees. The capital invested in the living annuity will also not be subject to Estate Duty, unless the deceased made non-tax-deductible contributions to the retirement fund which was the source of the living annuity. On the other hand, where the annuitant does not nominate a beneficiary, the proceeds will be paid into the deceased’s estate but will not be estate dutiable, subject to the same qualification as mentioned before. The executor, however, is entitled to charge a fee on the value of this asset as he will be responsible for the distribution thereof. The fact that the annuitant’s nominated beneficiaries are guaranteed to receive their benefit, provided they survive the annuitant, makes a living annuity a particularly attractive estate planning tool.

In the event that a nominated primary beneficiary dies before the annuitant, that beneficiary’s share will be divided proportionately between the surviving primary beneficiaries. Alternative beneficiary nominations will only receive a benefit if there are no surviving primary beneficiaries.

The options available to the beneficiaries of a living annuity include the following:

Option 1: The beneficiary can choose to take a cash lump sum, with the lump sum amount being taxable in the hands of the deceased in accordance with the retirement tax tables. Where there are multiple beneficiaries, tax will be applied in respect of the total lump sums paid to all beneficiaries.

Option 2: Where a beneficiary chooses to transfer the annuity into a compulsory annuity in his/her own name, no tax will be paid on the transfer. However, the income payable from the annuity will be taxed in the hands of the beneficiary in accordance with his/her marginal tax rate.

Option 3: Where the beneficiary chooses a combination of a lump sum withdrawal and a compulsory annuity, tax as set out in Option 1 and Option 2 above will apply accordingly.

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