Question:
There does not seem to be any legislation governing when an ILLA (living annuity) can be terminated assuming a retiree has no dependents and would like to exhaust his capital in the ILLA. Theoretically this can never happen as the drawdown amounts just get smaller and make it uneconomical to continue.

Is there a cut-off point? In case of new pensions, if the amount is less than R75 000 then the full amount can be taken. Could this apply to an existing ILLA?

Answer:
Upon retirement, a member has the option of taking up to a maximum of 1/3 of their benefit from a pension fund or retirement annuity (RA). In the case of a provident fund, the entire benefit can be taken as a lump sum. These lump sums are then taxed according to the retirement tax tables. Any benefit not taken as a cash lump sum is known as the compulsory amount and has to be transferred to a compulsory purchased annuity (i.e. a life or living annuity). Living Annuity is the formal name for an ILLA.

In the case of Investment Linked Living Annuities (ILLA), the capital transferred to the ILLA is invested in underlying assets and the value of the ILLA is linked to the value of the underlying assets. As the value of the assets increase, the ILLA attracts capital growth. The annuitant must annually draw down an income of between 2.5 percent and 17.5 percent per annum of the net investment amount. The growth within the fund is free of tax and the income paid to the annuitant will be fully taxed at the annuitant’s marginal tax rate. Drawing an amount of income that exceeds the investment return from an ILLA when the market is depressed would mean that your capital will reduce. The risk of this is that you may run out of money before the end of your life.

The draw down rate is calculated with reference to the net investment amount available at the commencement of each 12-month anniversary period. So in theory, an annuitant should never exhaust the benefit because the draw downs are calculated as a percentage of the remaining capital balance.

The definition of 'Living Annuity' incorporated into the Income Tax Act allows for the annuitant to draw down 100 percent of the net investment amount — less than an amount specified by the Minister. The Minister has issued a government notice specifying that where the annuitant has already taken a lump sum benefit at retirement, that annuitant may draw down 100 percent of the net investment amount where the net investment amount does not exceed R50 000. Where the annuitant did not take a lump sum benefit at retirement then the annuitant may draw down 100 percent of the net investment amount where the net investment amount does not exceed R75 000.

In such an instance, the annuitant may access the full benefit as a lump sum. The rationale for this exception is that the costs associated with maintaining the annuity product simply does not make it reasonably viable.

Most retirees looking to exhaust their living annuity do it in order to invest their capital in voluntary investment vehicles where it is more easily accessible. This should be approached with caution as not only will all the draw downs be taxed as income, but alternate investments into life policies, unit trusts, money markets or similar vehicles probably would attract further tax considerations.

As always, it is important to seek professional advice from a Certified Financial Planner to get a sound idea of exactly how your specific circumstances relate to the above guidelines.

All the best.

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