Question:
It is compulsory for all staff at my company to retire at 60. I am 59-years-old and will soon have to withdraw from my provident fund.

If it is worth, say, R2-million at that point how much will I be able to take as a tax free portion and what is the best way to invest the balance particularly with a view to saving on tax? What percentage will SARS levy on the balance?

Answer:
You pose some very important questions around one of the most important events, from both a financial and emotional point of view, in any person?s life ? retirement.

Just to clarify, you mention withdrawing from your pension fund. What you will in fact be doing is retiring from your fund. Actual withdrawal happens when, for example, a person resigns from employment and then has to withdraw their benefit. The consequences are totally different.

So, let?s assume that you retire with an accumulated benefit in your fund of R2- million. I assume also that you have not retired from any other funds previously ? here I specifically refer to retirement annuity funds.

Firstly, what will you be able to take tax-free and how will any cash balance be taxed? Since you are in a provident fund, the rules of your fund are likely to provide that you may take any portion of the benefit as a lump sum (i.e. in cash). You must be aware though that whatever portion is taken in cash will be taxed immediately. To determine which portion of the lump sum may be taken tax-free, a formula called Formula B is applied. Without going into all the details, you will receive a minimum of R300 000 tax-free. You may add to that amount, however, all contributions that you made to the fund that were not tax-deductible. This is an important point since provident fund contributions that a member makes (i.e. not the contributions your employer made) are not tax-deductible at all in the year that they are made. All such contributions may then be added to the R300 000 to arrive at a total tax-free amount at retirement. Many provident funds only make provision for employer contributions ? you will know how your contribution structures work.

Any amount of cash taken in excess of the tax-free amount will be taxed according to a sliding scale: the first R300 000 at 18 percent, the next R300 000 at 27 percent and anything in excess at 36 percent.

Here's an example. If you take the full benefit of R2-million in cash it will be taxed as follows:

• The first R300 000 is tax free (assuming your employer made all contributions).

• The taxable portion of R1.7-million:
  • The first R300 000 is taxed at 18 percent = R54 000.

  • The next R300 000 taxed at 27 percent = R81 000.

  • The remaining R1.1-million is taxed at 36 percent = R396 000.

It is usually advisable to take at least your tax-free amount in cash; however, the amount to be taken is a subjective one and should be considered looking at your specific circumstances. You should consider the following:

• Whether you have large outstanding debts that you?d like to settle at retirement (e.g. an outstanding bond on a property or other debts and loans attracting high interest rates and costs).

• Whether you have any other capital requirements at retirement (e.g. do you want to purchase a new car?).

Secondly, what are your options with regards the balance? The balance which is not taken as a lump sum needs to be applied to purchase what is called a compulsory purchase annuity. There are two basic types of compulsory purchased annuities with different characteristics. A Certified Financial Planner can assist you in selecting the most appropriate annuity. (You can refer to a previous reader?s question where we discussed the differences between the two types of annuities in more detail.)

Regardless of the option chosen, the income you will receive will be taxed in your own hands (i.e. at whatever rate applies to you in any given tax-year taking into account all your income). The provider of the annuity will withhold the income tax, pay it over to SARS and pay the net annuity amount to you on a monthly basis (or quarterly or annually if you prefer).

The decisions you make at this juncture are likely to impact significantly on your lifestyle into the future. I would therefore strongly advise you to consult a Certified Financial Planner who can put a financial plan in place for you that takes your holistic situation as well as your lifestyle needs both now and into the future into account.

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