By Vanessa Papas: So since you can’t get away from tax, how can you work with it and possibly use it to your advantage?
Daniel Day-Lewi, Portia de Rossi, Jack Nicholson, Sean Connery and Robert Redford are among a growing list of celebs who have announced their retirements. While Hollywood has left them with bulging bank balances, for many others who retire keeping the cash flow can be a frightening journey. Adding to a lack of income is the fact that many still have to pay cash on their retirement policies, although tax is treated differently before and after retirement. We chat to the founders of Outsourced Finance, Malusi Cwele and Depo Ogunruku, on how you are taxed after you have retired and how you can get the most out of it.
Retirement annuities versus pension funds: You have likely heard of retirement annuities and provident or pension funds but may still not fully understand what they mean or how they work. Provident and pension funds is a retirement plan that an employer will make contributions to on your behalf. A retirement annuity (RA) is a private retirement fund that you are fully responsible for. Simply put, you would buy a retirement annuity from an insurance company. The advantage of retirement annuities is that you are allowed to contribute to any number of annuities and they are transferable. By doing this, you are able to use the lump sum amount to lower your income-tax liability that year because it is a very tax-efficient way to secure excess savings.
What are the tax benefits? As of March 2016, RA’s now carry the same tax benefits as pension and provident funds. This means that you are able to deduct contributions to an RA up to 27.5% of your taxable income for gross remuneration for tax. The maximum tax-deductible limit is R350 000 per year. By aiming to contribute as close to the tax-deductible limits as possible, you are able to reduce your tax liability and save more. Not to mention that the growth within your RA is tax-free. Contributions over and above this may be rolled over to following years, however, they will be subject to any limits relevant in those years. Something to keep in mind is that if you and your spouse hold investments in your own names, you both benefit from the tax exemptions. If you haven’t or aren’t able to save 27.5 percent of your income, but are lucky enough to receive a 13th cheque, you may consider topping up your contributions with it.
When should I retire? As much as most of us can’t wait to retire, if you are in good health you may want to delay retiring for a couple years to give you more time to save. Since the average life expectancy has increased dramatically over the years due to medical advancements and lifestyle changes, you need to take this into consideration. All income from an annuity is taxable – unfortunately. But the light at the end of the tunnel is that people aged 65-75 pay no tax on the first R122 300 income per year, as this is the current tax threshold. From age 75 and older, no tax is payable for the first R135 300 income per year.
What are tax-free savings accounts? Tax-free savings accounts (TFSA) are also something to be considered. It is a relatively new structure that allows you to invest R30 000 a year, with a lifetime limit of R500 000 (which is subject to change). These kinds of investments can be made up of various asset classes and are all tax-free. Contributions are not tax-deductible, so it is recommended that they should be used as a retirement plan ‘supplement’ to RA’s, pension or provident funds, especially if you are near the 27.5 percent contribution limit.
How can I afford a pension? As much as we want to live in and enjoy the moment because we never know what tomorrow might bring, reducing your expenses now can make the world of difference once you retire. Consider expenses that have their own tax implications such as cars and houses. Do you really need a flashy car, or that house on top of the hill when you are just barely able to contribute to your retirement plan? With so many factors to consider – as each person has a different lifestyle, income and retirement goals to name but a few factors – it is absolutely critical to get professional advice from a trusted advisor to help you plan for your future.