Take advantage of this gift from the government.
I’d like you to please take 3 minutes to imagine and write down how you would feel having a comfortable and worry free retirement one day. It could be going on holidays, spoiling your grand kids and never having to worry whether you have enough money coming in every month.
How do you get there?
A retirement annuity is one of the best tools to accumulate wealth for your future. It is a form of investment that has been in the market for many years and in many forms. The so-called legacy RA’s, dreamed up by Insurance companies in the 80’s and 90’s, are becoming extinct and are being replaced by their younger and more nimble Unit Trust based descendants.
In 2014 National Treasury estimated that only 6% of South Africans would be able to retire into the same standard of living they enjoyed in their career and be able to earn the same income they were earning when they retired. To address this National Treasury has been working hard to improve South African’s retirement prospects by incentivising investing for retirement.
What makes a Retirement Annuity great?
A retirement annuity is a wrapper/shell/outer layer. Within the retirement annuity is the underlying investment. These days this is likely to be a Unit Trust based investment.
There is no taxation payable within the Retirement Annuity. All interest and dividends generated by the Unit Trust investments inside the Retirement Annuity are tax free. These incomes are kept inside the retirement annuity and used to buy more units of the Unit Trust. You can replace the unit trusts inside your R.A. with others and not be liable for any Capital Gains taxation.
You are entitled to deduct your contributions to your retirement annuity from your income tax. This means that by contributing to your Retirement Annuity, you will effectively be paying less income tax.
You can retire from a retirement annuity as early as the age of 55. When you retire you will be entitled to a maximum of one third of the retirement annuity as a cash lump sum. R500 000 of this will be tax free. A minimum of two thirds of the retirement annuity must be used to buy an annuity that will give you a monthly pension for your retirement.
Income and Growth are both tax free. You are entitled to a tax deduction for your contributions to your R.A. You are effectively paying less income tax by contributing to a retirement annuity. You can retire from an R.A. at age 55. When you retire you can take one third of the value in cash. R500 000 of this will be tax free. Two thirds must be used to purchase an annuity that will give you a monthly pension.
A gift from National Treasury
From March 2016, National Treasury has given us a real gift. They increased the deduction allowable for our retirement funds to 27.5%. This means that you will be able to contribute 27.5% of your Taxable income (All incomes less all deductions) to your Retirement Annuity and receive an income tax deduction. This is to a maximum annual deduction of R350 000. Anything in excess of this will be carried forward to your next tax year.
In previous years we were only allowed to get a tax deduction for contributions equal to 15%. It is now seriously in our interest to be contributing as much as we can to our Retirement Annuity.
We can contribute 27.5% of Taxable income to our Retirement Annuity and receive an income tax deduction.
Give your future self a raise
Your retirement annuity will be used to produce a salary for yourself in future. The larger the retirement annuity you accumulate the more your future salary will be.
South Africa is a high inflationary environment. Most expenses increase by at least inflation every year and many of them, such as medical expenses increase well in excess of this. In order to keep up with inflation and protect our retirement capital we need to increase our retirement annuity contribution by inflation every year. This needs to be the first thing on your list when you get a salary increase. By increasing your contribution by inflation you are effectively giving your future self a raise.
Increasing your R.A. contribution with at least inflation every year protects your capital and is effectively giving your future self a raise.
Give your future self a bonus
Personal finance is about consumption. The more or less you consume of your salary every month will have a direct bearing on how much you have to provide for your future retirement. Often we put everything ahead of our retirement provision. This is one of the chief reasons why many South Africans will not have enough to retire one day. We need to put our retirement first and then live off the rest, not the other way around.
This is especially true when it comes to surprise lump sums such as a bonus or an income tax refund. This is money that we may not have been expecting. If we use it to fuel our lifestyle we are in fact creating more of a burden on our future selves. We will be reliant on having the lump sum available in future to cover certain expenses. However, if we put the lump sum directly into our Retirement Annuity we have essentially given our future self a bonus. We have also reduced our tax liability this year. We will have lived off less and provided more for the future.
We have until 28 February 2017 to put a lump sum into our Retirement Annuity this year. It’s something that will pay major future benefits.
Putting a lump sum into your R.A. will be a major future benefit and will save you tax this year. It is like paying your future self a bonus. You have until 28 February 2017 for this tax year.
Just get started and increase aggressively
There are multiple articles in the media that talk about the percentage of your gross salary you need to put into your retirement annuity in order to successfully retire one day. Knowing how much you should be investing for your retirement each month can be extremely intimidating and demoralising. The most important part is to get started. Any goal can be reached in small increments. You can now take out a Retirement Annuity for as little as R500 per month with many providers in the market. This is not much money at all.
Once you get started you need to increase your contributions aggressively every year or whenever you get a raise. A 10% increase in your R500 contribution is only R50 per month. If you get a big bump in your pay cheque you can also aggressively increase your retirement annuity contribution. Providing adequately for retirement is about getting started and then making a series of small wins, and occasional big ones, throughout your career.
Think about this:
If we use a cricketing analogy: We do not need to hit a four or six every ball to win a game of cricket. Provided we do not lose wickets (We get started and stay consistent with our contributions) or have too many dot balls (not increasing our contributions) and that we get consistent 1’s and 2’s (annual increases in our contributions) and the occasional 4 and 6 (increasing aggressively when we get a raise) we are setting ourselves up for an imposing total (an adequate provision for retirement).
The most important thing is to get started. You can do it for as little as R500 per month. You then need to aggressively (above inflation) increase your contributions whenever you get a raise and especially when you get a promotion.
Having a comfortable and worry free retirement one day is peace of mind that is worth hard work and effort. The truth is: one day after a long career you will deserve a rich retirement, but the only person who is going to make it happen is you. To make it happen you have to:
- Get going;
- Give your future self a raise and;
- Pay your future self a bonus.
This article was brought to you by Verso Wealth (Pty) Ltd, an authorised Financial Services Provider, FSP license number: 46260. To speak to an advisor, call us on 021 943 5301 or mail us at [email protected].
Verso Wealth (Pty) Ltd is a division of the Verso Group of Companies.