What happens when you reach the official legislative retirement age of 55? If you’re ready to stop working and you’ve saved enough in a retirement annuity, pension, or provident fund, it’s time to formally retire from your fund. In order to provide an income for the next chapter of your life, it is necessary to convert these savings into a life or living annuity that will pay out a regular pension income to you once you have stopped earning an income from working. Let’s take a look at some important things you need to know about the rules of living annuities.
What is a living annuity?
A living annuity is meant to provide an income once you have stepped down from your retirement fund (whether this is a retirement annuity, pension, provident, or preservation fund). While no tax is payable on any investment gains earned in the living annuity, any income paid out or any lump sums withdrawn will be taxed according to the normal tax tables.
How does a living annuity work in South Africa?
Before you select a living annuity as the means to provide yourself with a pension for your golden years, it’s important to know what advantages and disadvantages this financial instrument offers.
Practically speaking, you can think of a living annuity like a bank account. It’s your choice as to where the money is to be invested, and how much of this money you want to withdraw as a pension each year (this is set at a minimum drawdown of 2.5% and maximum of 17.5% of your capital value). Taking too much out too quickly can deplete your funds, and poor investment performance can also negatively impact your situation. Additionally, there is also the risk that you might outlive your funds. While living annuities offer great flexibility and are attractive to the experienced investor, they do pose significant risks.
WHAT YOU NEED TO KNOW ABOUT LIVING ANNUITIES
|Flexibility||You control the amount of pension you take – so you can adjust as needs change. This can only be done once a year on your policy anniversary date.||It is possible that you can drawdown too much pension and end up in a situation where you outlive your retirement funds.|
|Control||You have full control and make active decisions in the investment of your funds.||You have full control over your investment, but will you still be able to make sound financial decisions when you are older?|
|Performance-linked||You benefit from good investment performance.||You stand to suffer from poor investment performance.|
|Death-related||On your death, the remainder of your living annuity can be left to your spouse or dependents.||You might live longer than expected, ending up with insufficient funds to support you until your death.|
|Changing your mind||You can exit and buy a guaranteed life annuity later, or you can transfer your living annuity to another provider.||Changing your mind too often about the drawdown amount or investment placement can result in a diminishing pension.|
A living annuity may be a good choice for you if :
You can tolerate the risk that you might outlive your pension income, and you are able to carry the responsibility of making decisions about your pension (relating to investment and drawdown amount) annually until you die – which may be well over the age of 90, and if one or more of the following applies to you:
- You will have another income source in your retirement
- You will continue to work in retirement
- Your health outlook is not great and your life expectancy is less than most people (under 10 years, for example)
- You wish to leave something for your dependents after your death.
Some warnings about living annuities
- With a living annuity, the ball is entirely in your court – you make the decisions relating to where the money is invested and how much annual pension you take.
- This flexibility comes with the risk of outliving your pension or having insufficient funds to support yourself due to poor investment performance.
- It is your responsibility to consult with a financial advisor to ensure that your income level is sustainable for the remainder of your lifetime. Your income drawdown must be carefully managed in relation to investment return on your capital to achieve this.
Generally speaking, it is advisable to start out on the lowest possible drawdown level that you can afford, since this will counter the likelihood of capital being diminished too quickly, allowing for further capital growth, which enables higher drawdown levels further down the line when you may need more, such as medical costs in your old age.
Can a living annuity be cashed in South Africa?
Once you are receiving an income from a living annuity, generally speaking, it is not possible to cash in your funds. You will need to have your living annuity proceeds paid out into a South African non-resident account, from where you will be able to transfer this money offshore as it is paid to you. Previously a distinction was made between whether or not you’d made a lump sum withdrawal at retirement – if you had, you could only withdraw the full value of your investment if the value was below R50 000. If you had not used your withdrawal opportunity at retirement, you cash in the full amount if it was less than R75 000.
Recent changes in living annuity withdrawal rules mean that now there is no longer a difference in withdrawal amounts if you have previously withdrawn from your living annuity or not. Therefore if your living annuity has a value of R125 000 or less, it can be withdrawn and will be taxed accordingly.
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