Question

I retired three years ago, with half my income coming from my company pension fund and the other half from interest from investments. I am paying tax at a rate of 41%. Is there anything that I can do to reduce this amount?

Answer

It is usually a good idea to clear any debt before you start investing. Any new investment needs to give you a return after tax that is better than the interest rate that you’re paying on your debt.

However, as with most financial decisions, nothing is obvious and you need to do some calculations first.

In your situation where you want to withdraw money from a retirement fund, you must watch out for the punitive taxes that are charged when you withdraw your money.

If you withdrew the R170,000 from the pension, the first R25,000 would be tax-free, and the balance would be taxed on a sliding scale that starts at 18% and ends at 36%. In your instance, the tax payable would be R26,100, so you would receive R143,900. You would therefore be able to put R143,900 into your bond.

A better solution would be to take the initial tax-free portion of the withdrawal benefit (R25,000) and put that into your bond immediately. You then transfer the balance of R145,000 to a preservation fund or retirement annuity. There would be no tax payable.

This investment would grow in a tax-free environment and, in three years’ time, when you turn 55, you can mature the investment. Because the investment would be below R257,000, you would be able to take it all out as a lump sum. There would be no tax charged if you have not used your R500,000 retirement tax-free allowance. You can then put the full amount into your bond.

By waiting three years for the retirement investment to mature, you will have saved R26,100 in tax and can use this saving to make an even bigger dent in your bond.

Having said that, I am concerned that you do not have adequate retirement savings. I recently saw a statistic that showed life expectancy has increased by 26 years since 1953. This has major implications for your financial planning.

You need to make sure that the money you have saved when you retire will last you for at least 30 years, not the 10 years that the parents of baby boomers like me typically lived after retirement.

Several pension funds contact me to provide retirement counselling to their members. One of the more difficult parts of my job is to help members understand what monthly income their retirement savings can sustainably provide. The money they have in their pension fund is often the largest amount of money that they ever had, and they are often disappointed when it is translated into a monthly income.

The challenge we have is that the investment income on your retirement savings must last you for the rest of your life.

Now, we do not know how long that will be. We also do not know how well the markets will do.

We’ve just come out of a spell where the markets moved sideways for five years. If you are drawing out more money than the investment is making after costs, you will start using up your capital and you do stand a chance of running out of money.

The Financial Sector Conduct Authority recently proposed a set of recommended drawdown rates for retirement savings: This means, for example, that if you have a living annuity, your ideal drawdown should be 5% if you are 65.

Let’s translate this into a monthly pension income:

R5-million in retirement savings will only give you R20,000 a month. Bear in mind that your medical aid premiums and tax will eat up a chunk of this, so you need to make sure that you have adequate savings.

My recommendation is that you invest as much as you can into your retirement savings for the next 13 years before you retire.

Remember to make full use of the 27.5% tax breaks that you get on retirement contributions.

It is not too late to get yourself back on track, but it will take a lot of financial discipline.