Question

I retired three years ago and receive a passive income from my business. I own a retirement annuity, which is still active. My broker says I should continue contributing to it. Is this the right thing to do?

Answer

Before I get into the detail of your question, let’s recap on what a retirement annuity is:

A retirement annuity is a savings product designed to provide you with a pension when you retire. It has a number of benefits and restrictions.

The benefits are:

Your contributions are deductible from your taxable income.

This means that you are getting the government to contribute part of your savings. For example, if you are paying tax at a rate of 30% and you contribute R1,000 to a retirement annuity, the R1,000 will come off your taxable income, so the investment will only cost you R700.

Tip: If you are working for a company, tell HR that you are paying towards an RA so that they can reduce the tax you pay immediately. This is one of the few breaks that a salaried person can get, so you should use it.

The growth within the fund is tax-free. The extra investment you get from not paying tax can have a significant impact on your investment.

You can get retirement annuities with no policy fees, so you can own several and have a great deal of flexibility when it comes to maturing them.

There are a couple of negatives:

You are governed by Regulation 28, which restricts the amount of offshore investment you can have in your portfolio to 30% outside Africa. Your equity exposure is limited to 75%.

You must use two-thirds of the proceeds of the investment to buy an annuity/pension.

The biggest restriction is that you cannot access the funds before you turn 55.

For someone older than 55 this should be the first port of call when it comes to investing, as the biggest restriction is no longer a factor, and you are able to mature the annuity whenever you like. You must, however, make sure that you take out one of the new-generation retirement annuities, where there are no penalties for early retirement.

Just to underscore the value of a retirement annuity for someone over 55. If you are paying tax at a rate of 30% and you contribute R100,000 as a single premium to a retirement annuity, you will receive a tax rebate of R30,000 at the end of the year.

This is besides the growth in the investment. It really makes sense for someone over 55 to chat to a financial adviser to invest the optimum amount in a retirement annuity to score the best tax breaks.

Another reason I believe that you should continue contributing to your retirement annuity after you reach retirement age is that retirement savings do not form part of your estate. This means that it does not attract estate duty when you die.

Estate planning

I use retirement annuities as an integral part of my estate planning process. They provide a wonderful way of passing on wealth to a beneficiary while keeping control of the asset while you are still alive. Other tools that are used to reduce estate duty, like trusts, result in you losing control of the asset while alive.

You must ensure that you nominate a beneficiary on your retirement annuity to make this process efficient. Also, remember to nominate a beneficiary on your living annuity, as this will also benefit from the favourable estate duty legislation.

Not just for old people

Retirement annuities are not just for old people. I also encourage my younger clients to invest in them.

My usual approach is to get people in their twenties and thirties to invest in a tax-free savings investment and once they hit that limit, to invest in a retirement annuity.

The growth will be tax-free, you will be getting the tax breaks on your contributions and you will get the massive benefit of compound interest.

Compound interest is a powerful investment tool. I saw a nice example where twin sisters invested in the same investment that gave the same return.

Angelique started when she was 25 and invested R10,000 a year for 10 years. Her R100,000 investment was worth R700,000 when she reached 55.

Katelyn started contributing R10,000 a year when she turned 35 and continued until the age of 55. At 55, the R200,000 she had contributed was worth R500,000.

Compound interest, combined with the right product, tax breaks and portfolios, will give you an impressive investment.