176 - The dangers of drawing from your pension fund

Question:

I want to withdraw R30,000 from my pension in order to settle some debt.  What are the pros and cons of doing this?

Answer:

I have had several questions like this over the past week.

When it comes to your finances, you need to look at the short term as well as the long term.  Your retirement fund is a long term investment. The skey to a long term investment is compound interest - this is the growth upon growth that your investment makes over time.

For example, if you invested R100 000 and it grew by 10% each year, the year on year growth will be as follows:

As you can see, between year 29 and year 30, your investment would have grown by R158 000 which is 50% more than you originally invested.

Each year’s growth upon the previous year’s growth builds real wealth. This is why it makes sense to start investing early and leave the money invested for as long as possible.

I often come across people approaching retirement whose retirement funds are growing by much more than their monthly salaries.  This is because they did not make any withdrawals from their retirement funds when they changed jobs.  The R100 000 that they invested when they were 30 years old will be growing by more than R150 000 a year when they are 60 years old.

So, to come to your question – if you take out R30 000 from your retirement fund now, the long-term implications are bigger than you think. 

If we assume that the retirement fund grows by 10% a year, the difference in the value of your retirement fund if you take R30 000 is given on the table below: 

After 10 years, your retirement fund would be R77 000 smaller than it would have been had you left the R30 000 in the fund.  After 30 years, the R30 000 withdrawal will result in your fund being over half a million rand less than it would have been had you left the money in the fund.

If you want to make a withdrawal from a long-term investment like a retirement fund in order to sort out a short term solution like debt, just be aware if the long term implications of such a decision.

There are a couple of other factors that you need to consider when making a withdrawal from your retirement fund:

Delays - Do not expect the money to be paid out immediately. Retirement funds will be inundated with requests for withdrawals and each withdrawal will need a tax directive.  This will delay the payment 

Costs -  Many funds will charge you a fee of R500 to make a withdrawal

Tax - You will pay tax at your marginal rate on the withdrawal. 

For example, if your marginal rate is 30%, and you withdraw R30 000, you will only get out R20 500 once fees and tax are deducted: 

When you consider the long-term implications of the withdrawal, you may be better off looking for an alternative solution to your debt problems.

Kenny Meiring MBA CFP ® is an independent financial adviser who helps people put investment and risk structures in place to live wonderful lives.  You can contact him on 082 856 0348 or at Financialwellnesscoach.co.za. Please send your questions to kenny.meiring@sfpwealth.co.za