A few words on retirement
By Matthew Lester, Professor of taxation studies at Rhodes University, Grahamstown
Many South Africans are conveniently using the looming introduction of some form of social security system as a convenient excuse not to provide for their own retirement. Some say ‘By the time I get to be that old, the State will provide! I would far rather have a new set of wheels than a retirement annuity. You can’t take it with you!’
Are they right? Will it all be okay in the end? Or are many South Africans cruising towards a huge wakeup call (at best) or poverty in retirement. Or worse, will they land up living with their kids?
This year the RSA population will cross the 50 million mark. And about 2,5 million are pensioners with nothing else between them and starvation than the R1070 per month social pension. Some think that this will improve with time. No ways - before there is anything more to be done for the aged, Government is going to have to provide a better deal for: -
So the prospect of an employed South African ever receiving a meaningful pension from Government is about as remote as the prospect of finding snowflakes in the desert.
There has not been much good news for South African pensioners in recent years. For starters interest rates have plummeted since 1999 when Reserve Bank Governor Chris Stals handed over to Tito Mboweni. Today, with Gill Marcus at the helm, the prospects for the return of high interest rates of the Stals era are remote. So one cannot simply hope that the pensioner will be saved by higher rates.
Add to the above that the pensioner’s shopping basket is heavily weighted to medical services, electricity and rates and taxes. These costs are rising faster than the inflation rate.
As frightening as these issues may be, they are not the biggest threats to the prospective RSA pensioner. The biggest problems are the following:
Around the Millennium celebrations the futurists were predicting that our biggest problems would be associated with retirement. But then the world went off on a consumer binge that culminated in the Global Credit Crunch. So the issues got hidden away. Now, as we come back from the Global Credit Crunch the same issues are waiting for us, only much, much bigger.
Some say that they would be better off somewhere else. And that all our problems are caused by the new RSA. ‘Emigrate to America and Australia,’ are the usual calls. But when they get there they find exactly the same social problems.
In RSA today, about 1,3 million taxpayers make tax deductible contributions to pension and provident funds through their employers. Only about 18 000 bother to make any additional voluntary or top-up contributions to these funds. 1,8 million make tax-deductible contributions to retirement annuity funds. And many of them are the same lot who are already contributing to pension and provident funds. Whichever way you look at it there are less than three million South Africans with a pension plan of any sort. Out of the 12 million employed South Africans that represents only 25%. Or just 6% of the 50 million total population.
One has to wonder what will happen to the rest of them.
Again some blame the Government for not being more proactive in making all South Africans provide for their retirement. But the tax incentives for retirement savings do exist. So, it is more a case that it’s easier to blame Government than actually getting on with recognising the problem.
The government philosophy on encouraging retirement saving works on the philosophy of :
Tax-deductible Contribution
For years there have been rumours that Government would seek to restrict or even totally withdraw tax-deductible contributions to retirement funds. To date this has not happened. But the threat is now much closer.
For the tax year ending 28 February 2012 tax deductions to retirement funds will be determined as follows: -
In the 2011/12 Budget speech it was announced that there would be an overhaul of the contribution thresholds commencing from the 2013 year of assessment. The full details are not known at the time of writing this article but are anticipated as being:
So the High Net Worth Individual has a last chance to contribute an unlimited 15% of retirement funding income to a retirement annuity. And there is more to this opportunity than meets the eye.
Many taxpayers who have the benefits of a share participation or share option scheme contribute 15% of their scheme benefits to a retirement annuity fund. In that way they can withdraw wealth from their share incentive scheme and diversify the funds into a spread of underlying collective investment schemes without incurring taxation.
Tax free investment within the fund
In the early years of the new RSA the Katz Commission of Enquiry into the RSA tax system suggested that it would be a good idea to partially tax retirement funds. The resultant Retirement Funds Tax was a disaster and never yielded much tax to Government. So it did not last long and RFT was repealed in 2007, leaving retirement funds as tax-free institutions.
Very few South Africans appreciate that retirement funds are now virtual tax havens. Where else can one invest with up to a 40% tax incentive and thereafter the fund grows free of Income Tax and Capital Gains Tax?
But the moans still continue. ‘What happens if the Government simply nationalises all retirement fund savings?’ My answer to that is quite simply ‘if you believe that could still happen, what are you still doing in RSA. You should have emigrated years ago.’
Others argue ‘You cannot access your money until you are 55 years old.’ My answer to that is ‘that’s the whole point of the exercise. If you are going to need to draw down on your fund earlier, then invest directly into CIS schemes, life insurance policies or just a straight bank account. Nobody is suggesting that one invests everything in a retirement fund.’
Anyway, the fact that you cannot access your retirement fund also means it is safe from attack from your creditors. But please remember that this line of argument no longer includes a spouse in the event of divorce proceedings.
Some also say that the restrictions imposed by regulation 28 of the Pension Funds Act are also a negative factor. These regulations limit the exposure of the fund to equity investment of 75% of the fund and offshore investment of 25% of the fund. Personally, I think these are very well thought out conservative restrictions and it would be only in rare instances that they should be viewed as being restrictive.’
‘And what about the administration costs of retirement funds is the next complaint. The answers are quite simple: - (1). Today, all costs have to be disclosed and agreed in advance. (2). It is quite simply ridiculous to reject the potential of a 40% tax incentive because of an investment commission/cost.
So in desperation the final curved ball gets thrown, ‘well SARS will get it all back when the funds are withdrawn. That’s when all the chickens come home to roost.’
Note that the government policy is ‘partial taxation of the withdrawal benefit.’ Taxation is not imposed on withdrawal willy-nilly. There are wide ranges of procedures to legitimately minimise or control the incidence of tax on withdrawal benefits.
Many South Africans are conveniently using the looming introduction of some form of social security system as a convenient excuse not to provide for their own retirement. Some say ‘By the time I get to be that old, the State will provide! I would far rather have a new set of wheels than a retirement annuity. You can’t take it with you!’
Are they right? Will it all be okay in the end? Or are many South Africans cruising towards a huge wakeup call (at best) or poverty in retirement. Or worse, will they land up living with their kids?
This year the RSA population will cross the 50 million mark. And about 2,5 million are pensioners with nothing else between them and starvation than the R1070 per month social pension. Some think that this will improve with time. No ways - before there is anything more to be done for the aged, Government is going to have to provide a better deal for: -
- The 11 million children under the age of 18 who only receive a social services grant of R270 per month. And there are nearly 100 000 new applications every month.
- The 4 million unemployed and 10 million economically inactive South Africans who, at present, receive absolutely nothing from the State.
So the prospect of an employed South African ever receiving a meaningful pension from Government is about as remote as the prospect of finding snowflakes in the desert.
There has not been much good news for South African pensioners in recent years. For starters interest rates have plummeted since 1999 when Reserve Bank Governor Chris Stals handed over to Tito Mboweni. Today, with Gill Marcus at the helm, the prospects for the return of high interest rates of the Stals era are remote. So one cannot simply hope that the pensioner will be saved by higher rates.
Add to the above that the pensioner’s shopping basket is heavily weighted to medical services, electricity and rates and taxes. These costs are rising faster than the inflation rate.
As frightening as these issues may be, they are not the biggest threats to the prospective RSA pensioner. The biggest problems are the following:
- Dads used to work to 65 and die at 70. So Dad’s retirement fund only had to last five years. Then Mom sold the house and moved in with the kids. That’s why employers provided defined benefit pension funds. Today Dads retire at 60 and die at 80. So the retirement package has to last for 20 years. And employers provide defined contribution provident funds with no guarantees to see the pensioner through to the end.
- Children used to leave home at 18 to 20. ‘Empty nest’ syndrome we used to call it. But this has been replaced by KIPPERS syndrome, i.e. ‘Kids in Parents’ Pockets Eroding Retirement Savings.’ So instead of children supporting parents, it has all turned the other way round.
Around the Millennium celebrations the futurists were predicting that our biggest problems would be associated with retirement. But then the world went off on a consumer binge that culminated in the Global Credit Crunch. So the issues got hidden away. Now, as we come back from the Global Credit Crunch the same issues are waiting for us, only much, much bigger.
Some say that they would be better off somewhere else. And that all our problems are caused by the new RSA. ‘Emigrate to America and Australia,’ are the usual calls. But when they get there they find exactly the same social problems.
In RSA today, about 1,3 million taxpayers make tax deductible contributions to pension and provident funds through their employers. Only about 18 000 bother to make any additional voluntary or top-up contributions to these funds. 1,8 million make tax-deductible contributions to retirement annuity funds. And many of them are the same lot who are already contributing to pension and provident funds. Whichever way you look at it there are less than three million South Africans with a pension plan of any sort. Out of the 12 million employed South Africans that represents only 25%. Or just 6% of the 50 million total population.
One has to wonder what will happen to the rest of them.
Again some blame the Government for not being more proactive in making all South Africans provide for their retirement. But the tax incentives for retirement savings do exist. So, it is more a case that it’s easier to blame Government than actually getting on with recognising the problem.
The government philosophy on encouraging retirement saving works on the philosophy of :
Tax-deductible Contribution
For years there have been rumours that Government would seek to restrict or even totally withdraw tax-deductible contributions to retirement funds. To date this has not happened. But the threat is now much closer.
For the tax year ending 28 February 2012 tax deductions to retirement funds will be determined as follows: -
- Employer contributions to pension and provident funds, 20 per cent of earnings. Note that tax-deductible contributions to employer owned insurance policies (sometimes referred to as Deferred Compensation Schemes) have been withdrawn with effect from 1 March 2012.
- Employee contributions to Pension Funds only - 7,5%.
- Individual Taxpayers contributions to Retirement Annuity Funds – 15% of non-retirement funding income ‘NRFI’ subject to a minimum of the greater of R3 500 – Pension Fund Contribution or R1 750.
In the 2011/12 Budget speech it was announced that there would be an overhaul of the contribution thresholds commencing from the 2013 year of assessment. The full details are not known at the time of writing this article but are anticipated as being:
- Employer contributions to pension and provident funds will be increased to 22.5% of earnings.
- Total tax-deductible contributions to retirement annuity funds will be subjected to a minimum of R12 000 and a maximum of R200 000 per annum per taxpayer.
So the High Net Worth Individual has a last chance to contribute an unlimited 15% of retirement funding income to a retirement annuity. And there is more to this opportunity than meets the eye.
Many taxpayers who have the benefits of a share participation or share option scheme contribute 15% of their scheme benefits to a retirement annuity fund. In that way they can withdraw wealth from their share incentive scheme and diversify the funds into a spread of underlying collective investment schemes without incurring taxation.
Tax free investment within the fund
In the early years of the new RSA the Katz Commission of Enquiry into the RSA tax system suggested that it would be a good idea to partially tax retirement funds. The resultant Retirement Funds Tax was a disaster and never yielded much tax to Government. So it did not last long and RFT was repealed in 2007, leaving retirement funds as tax-free institutions.
Very few South Africans appreciate that retirement funds are now virtual tax havens. Where else can one invest with up to a 40% tax incentive and thereafter the fund grows free of Income Tax and Capital Gains Tax?
But the moans still continue. ‘What happens if the Government simply nationalises all retirement fund savings?’ My answer to that is quite simply ‘if you believe that could still happen, what are you still doing in RSA. You should have emigrated years ago.’
Others argue ‘You cannot access your money until you are 55 years old.’ My answer to that is ‘that’s the whole point of the exercise. If you are going to need to draw down on your fund earlier, then invest directly into CIS schemes, life insurance policies or just a straight bank account. Nobody is suggesting that one invests everything in a retirement fund.’
Anyway, the fact that you cannot access your retirement fund also means it is safe from attack from your creditors. But please remember that this line of argument no longer includes a spouse in the event of divorce proceedings.
Some also say that the restrictions imposed by regulation 28 of the Pension Funds Act are also a negative factor. These regulations limit the exposure of the fund to equity investment of 75% of the fund and offshore investment of 25% of the fund. Personally, I think these are very well thought out conservative restrictions and it would be only in rare instances that they should be viewed as being restrictive.’
‘And what about the administration costs of retirement funds is the next complaint. The answers are quite simple: - (1). Today, all costs have to be disclosed and agreed in advance. (2). It is quite simply ridiculous to reject the potential of a 40% tax incentive because of an investment commission/cost.
So in desperation the final curved ball gets thrown, ‘well SARS will get it all back when the funds are withdrawn. That’s when all the chickens come home to roost.’
Note that the government policy is ‘partial taxation of the withdrawal benefit.’ Taxation is not imposed on withdrawal willy-nilly. There are wide ranges of procedures to legitimately minimise or control the incidence of tax on withdrawal benefits.
