Retirement and your ‘second wind’
With improved healthcare and the trend towards healthier lifestyles, many people are living to a ripe old age. Make sure that your money lasts as long as you do. Are you retiring in the near future and concerned that you may not have enough capital to retire? We often read that the majority of South Africans will not have enough money to retire. This means that they either have to keep on working, or they have to change their lifestyle dramatically and live more frugally than planned. For many people, this may seem like a major setback. People who find themselves in this position often compound their situation through poor financial decisions after retirement. If you are in this position, what should you do? How does one make the best of a difficult situation? There is no magic cure. It is important to remember that people who retire at 65, on average, still have approximately 20 years to live. This means that they have time to allow their capital to grow without taking unnecessary risks. It is equally important to know that there is no miracle cure, but you can recover your situation with some careful planning. Sadly, retired people have been the main victims of financial disasters over the last few years in pyramid schemes. Those with longer memories will remember the Leaderguard and Masterbond debacles. Retired people often have some investable capital, and they are in financial difficulty. This combination is a recipe for disaster, as people who are under financial stress tend to make very poor decisions. Remember that you have time to make your situation better, and that there are no magic financial pro-ducts to solve all your problems. You should tackle this problem from a number of different angles. The most obvious route is to continue earning income after retirement. This does not mean that you must necessarily continue with your old job – you could start a second career. Many retirees have started second careers that have literally changed their lives. Good examples of second careers are estate agents, consultants, building superintendents, or even supervisors of small businesses, e.g. garden service companies. Any income that you earn after retirement allows you to draw less of your capital, thereby giving you more time to let your capital grow. It is highly likely that you will live longer than you expect, and inflation will have more of an impact on your finances than you thought. This means that you need to invest your capital wisely and with caution. You cannot leave your money in a bank account, as you will lose money in real terms, i.e. after inflation and tax. It is also not recommended that you invest your precious retirement capital in a new business venture unless you are already very familiar with the industry. I often meet people who have retired with insufficient capital who decided to use their retirement capital to open a shop or restaurant with friends or family. This has usually led to disastrous consequences as the new business failed and left the retiree on the breadline. Also, be very wary of investing a significant part of your capital into direct businesses – statistically they are more likely to fail than succeed. Understand risk and return People with insufficient capital at retirement usually try to increase their capital base as quickly as possible to make up the shortfall. Unfortunately, many people choose investments with the greatest potential returns to make up the shortfall as quickly as possible. The problem with this approach is that risk and return are always related: if you target higher returns, you are always taking higher risks. If you have retired with insufficient capital, you cannot afford to take too much risk as you have very little room to manoeuvre if things go wrong. In fact, you should take less risk than people who have retired with sufficient capital. You should develop a well-constructed portfolio of assets that are diversified across cash, bonds, property, and shares. The only ‘free lunch’ in the world of finance is diversification. A properly diversified portfolio of assets creates the highest possible returns with the lowest possible risk. An example of a diversified portfolio is 10% cash, 20% property, 40% bonds, and 30% shares. The property in this instance is investment property, and does not refer to your residence. The ideal combination of assets for each person will vary depending on their particular circumstances. Do you need to own your house? If you have very little investment capital and you have a house that is paid off, then you need to ask yourself if you really need to have capital tied up in a house. Many people feel that you must own your house, particularly as you get older. There are other experts who would argue that your home is just an expense, and that you should not have too much capital tied up in an expense. You could consider selling your house and renting a property – but only if the capital that you realise from your house is invested in a very low risk portfolio. This option may not suit everybody, and you should do your calculations carefully. Whatever you do, don’t create debt at this stage in your life. This means that you should not have credit card debt or even a mortgage-rather rent than have a mortgage. Reduce your expenses If you are able to reduce your lifestyle costs by a small amount, you will ensure that your capital lasts much longer. People who reduce their expenses by 10% can make their capital last for an additional 4 or 5 years. This means that it may not be necessary to change your entire lifestyle; some small adjustments may be enough. Retiring with insufficient capital may not be a disaster. You need to be sensible, however, and take care with the capital that you have. Avoid taking unnecessary risks with your precious nest egg, and you may find
Distributing retirement funddeath benefits
Step 1: Identifying and tracing dependents Section 37C of the Pension Funds Act places a clear and onerous duty on the board of trustees to determine the fair and equitable distribution of death benefits of fund members. The first step is to find and identify dependants. This article provides an overview of the different types of dependants, as well as nominated beneficiaries. In order to disburse a death benefit, there is a duty on the board of trustees to conduct a proper investigation to determine all the dependants. Section 37C excludes freedom of testation and overrides the laws of intestate succession or any other law that may be in conflict with the statutory scheme contemplated in the Section. This means that trustees can’t simply follow the wishes of a member as ex-pressed in their last will, or follow the beneficiary nomination made by the member during their lifetime – or, very often, dictates by family members that may have their origins in customary law or the common law. The board must establish who the persons are who fall within the ambit of ‘dependant’ as defined in the Pension Funds Act 1956 (‘the Act’). Identifying dependants and nominees Determining dependants and nominees can prove to be a challenging task for trustees, as they need to ensure that all dependants of the deceased member are taken into account in their decision-making processes. It is the duty of the board of trustees to correctly identify the members’ dependants and nominees in order to ensure the equitable and fair distribution of the death benefit. The Act defines three categories of dependants: Legal dependants This includes dependants in respect of whom the member owed a legal duty to support (meaning a duty that can be enforced in law), such as a spouse and children (including children born out of wedlock and adopted children). Parents, grandparents, grandchildren, and siblings can fall into this category, subject to certain provisions. In order to fall within the ambit of this category, the person claiming will have to prove that the deceased was legally obligated, i.e. in terms of legislation (Maintenance Act, 1998, Divorce Act 1979, common law, or a legal obligation) to maintain the person claiming. Factual dependants Those persons to whom the deceased owed no legal duty of financial support but who nevertheless factually depended on the deceased for maintenance. This would include a spouse in respect of whom the marriage or union is not recognised by any law or a financially independent major child. In order to fall within the ambit of this category, one would have to prove that the deceased financially maintained you despite not having any legal obligation to do so, or where the legal duty to maintenance has ceased to exist. Future dependants Those persons whom the deceased did not financially maintain at the point of their death, but whom they would have maintained in future, had they not died. This would typically include elderly parents, a fiancé, or an unborn child. In order to fall within the ambit of this category, one would have to prove that the deceased would have become liable to maintain you, had they not died. It is important to note that not all identified dependants automatically qualify to receive a portion or all of the death benefit. Once the board identifies a dependant as per the definition ‘dependant’ in the Act, such a dependant is only entitled to be considered by the board when making the benefit allocation decision. Nominated beneficiaries also do not have an automatic right to claim a death benefit. Nominated beneficiaries Apart from dependants, members of retirement funds are able to nominate beneficiaries. A nominee is someone who cannot, under the Act, be defined as a dependant but has been nominated, in writing, by the member to receive their benefit or a portion thereof. The member will fill out a nomination form, in which they will name all their financial dependants, as well as anyone else they wish to receive a portion of their pension in the event of their death. The member specifies what percentage they wish each of their nominees to receive. While the nomination form expresses the member’s wishes, it is only one of the factors considered by the trustees as part of the process of making an equitable distribution – being nominated in a nomination form entitles the nominee to be considered by the trustees, but does not automatically entitle the nominee to a portion of the benefit. A nominated beneficiary will automatically receive a portion of the benefit if no dependants have been identified in the 12-month period following the death of a member, and the nominee did not die before the member. The nominated beneficiary, unlike the dependant, does not need to prove their financial dependency on the member. A nominee qualifies by virtue of being nominated. Once all dependants have been identified, it is the duty of trustees to allocate and make benefit payments fairly, equitably, and within a reasonable timeframe. Written by ATLEHA-EDU This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)
Your retirement ‘gift’ to SARS
In last month’s issue of Tax Breaks, we dealt with the tax treatment of retirement lump sums when one resigns or is dismissed (prior to reaching normal retirement age). However, when you actually retire from a retirement fund, the rules are a bit different – and SARS gives you a bit more of a break. Definition of retirement In the ‘good old days,’ retirement meant that you had reached a certain stage where you stopped working, had a shindig at which you were presented with your gold watch, went on pension, and spent the rest of your days trying (unsuccessfully) to perfect your golf swing. However, everyday words always seem to mean something different when it comes to tax, and the concept of retirement is no different. From a tax point of view, the term ‘retirement’ refers not to the time when you decide (or circumstances force you) to stop working, but rather the event that triggers your retirement from a retirement benefit fund. The difference between ‘retirement’ and ‘withdrawal’ is that should you elect to receive your entire fund or part thereof as a lump sum, such lump sum is taxed at more favourable rates if your exit from the fund qualifies as a retirement. You can therefore ‘retire’ from a fund in the following circumstances: Any time from your 55th birthday onwards; or At any age, provided that such retirement is due to disability or ill-health. In most cases you will only be entitled to retire if such disability or ill-health is of a permanent or long-term nature. Note that retiring doesn’t mean that you will never be entitled to work again. With modern healthcare and more active lifestyles, many people are being retained as consultants – or even starting completely new careers. Even in the case of ill-health or disability retirements, there are many cases where the person’s disability or health status nonetheless enables them to work in areas that are less physically strenuous than the job from which they were medically boarded. Taxation of lump-sum benefits upon retirement Using similar scenarios as in last month’s article, except for the fact that the person has retired rather than withdrawn from their fund, the tax calculation is as per the table below. Transfer of benefits to another retirement fund If you have reached retirement age but you plan to continue working, you need to have both a tax consultant and an investment advisor run the numbers for you, especially if you don’t need to start drawing a pension immediately. Depending on your personal circumstances and tax position, it may be more advantageous for you to withdraw from your employer’s fund and transfer the benefits to another fund, or consider making your fund “paid up” (provided that the rules allow for this) rather than to take a retirement benefit. However, make sure that you take all of the possible implications into account, especially if you are entitled to receive certain post-retirement benefits (such as subsidised medical aid or the enjoyment of staff discount benefits that may be extended to retired employees as well). The last thing you want is to resign rather than retire in order to save a little bit of tax, but then end up with no post-retirement medical cover! Pensions / annuities In the case of your retirement from a pension or retirement annuity fund, your lump sum is usually limited to one-third of the total amount invested. The balance must be utilised to purchase an annuity (pension). Such annuity is fully taxable, just like your salary used to be (except that you no longer have a car allowance or other tax-preferential perks). This is different to voluntary purchase annuities, where part of the annuity represents the return of capital (with only the income portion therefore subject to tax). Lump sums received upon retrenchment With effect from 1 March 2011, severance benefits received will be treated on the same basis as a retirement lump sum, thus qualifying for the preferential tax treatment. However, if you are retrenched prior to your 55th birthday, you will not be able to retire from your retirement fund-which means that any lump sums paid out from your retirement fund will still be treated as a withdrawal (unless your severance has been for reasons of ill-health, in which case the normal retirement lump sum tax tables are applicable). In practice, your employer and your retirement fund are separate legal entities, and you should therefore be receiving two IRP5 certificates. The biggest tax risk is that since (for example) your employer’s payroll department will be dealing with your severance, while a fund manager could be handling the retirement fund, it’s possible that either (or both) entities might not know the full circumstances of your severance, and end up putting the wrong lump sum codes on the directive application. It is therefore critical that you receive appropriate tax advice once you have received notification of your severance package and available retirement fund lump sum, but before any tax directives are applied for. Once the directive has been and the IRP5 certificates have been issued, rectifying any errors is both difficult and time-consuming – in the case of one of my own clients, it took two years to sort things out with the employer and get the excess tax refunded by SARS. Receipt of previous retirement benefits The tax tables applicable to retirement fund lump sums received upon retirement are ‘once-in-a-lifetime’ scales. As will be seen more clearly from the calculation example above, this means that while a first-time taxable retirement lump sum of R500 000 would be exempt from tax, a subsequent lump sum of R200 000 would be subject to tax at 18%, being the rate applicable to the next band. This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information
Real Estate – The smart investment
Buying real estate is more than finding the right home or location for your business – owning property is an investment that holds more benefits than you might know. Income Predictability While interest rates may alter mortgage repayments at first, real estate offers a somewhat constant financial investment. Once home loans are repaid in full, real estate offers the owner a constant income that does not fluctuate with the market, an income that can increase with inflation. Of all the investment types, real estate is the safest from external influence. Increasing Value Property appreciates in value over time. Thanks to South Africa’s reliable climate, real estate investments rarely depreciate due to natural causes, so long as the property is well looked after by its tenants and owner. Appreciation levels have increased at 6% per year, on average, since 1968, meaning your investment will grow no matter what. Improve Your Investment Where other investments rely on the financial market, the greater economy and an organisation’s performance to increase their value, property value can be greatly improved by improving the actual property. With a little elbow grease and dedicated planning, you can increase the value of your investment yourself. Retirement Ready A great benefit of owning property is that it is there when you need it the most. While the initial burden of home loan down-payments on cashflow can be rather strenuous, the weight lessens considerably over the years as the principal reduction increases. This means that your cashflow will increase as you near retirement, allowing you to invest your money more appropriately. Up Your Equity While you pay off your home loan, you are also increasing your equity as your property counts as an asset in your net worth. Through increased equity you will be able to gain more leverage in financial situations, when obtaining a loan, for example, and you will be able to grow your wealth more steadily as well. Portfolio Diversification Real estate investment holds less risk than other major class investments, allowing you to create a diversified and safer investment portfolio. Through a diversified investment portfolio, you ensure that your investments are not all influenced by the same external factors, such as a fall in share value (as has been seen during the COVID-19 pandemic). When you start looking at investment options, it may be a wise decision to consider including real estate in your portfolio early on. Remember to reign in the assistance of the experts to help you find the perfect property to invest in. This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)
Tips for investing in property for retirement
Have you ever wondered if real estate is a sound investment? Well, it certainly can be! There are people out there who have invested in real estate and created a very comfortable lifestyle for themselves. That being said, there are also people out there who have lost everything due to bad real estate investments. When it comes to investing in real estate, especially for retirement purposes, it takes quite a bit of knowledge, skill, intuition and guts. Here are some tips to consider when it comes to investing in property for retirement income: Make sure to increase your real estate knowledge It goes without saying that to be good at anything, you need to know what you are doing. There are many seminars that you can attend that focus on how to invest in real estate. You can also read books on the matter and with the internet, all this information is readily available to you. Make sure to polish your skills There are many ways to invest in real estate. You can purchase a home or piece of land that you can flip, or a home that you can remodel and sell at a higher price. Otherwise, if you are looking to generate an income that can be used for retirement, you can look for income-producing properties such as commercial office spaces, apartments or homes that can be rented out. It’s important to assess your skills before purchasing a property. For example, if you have close ties to the development plans of your area, you could have a knack for spotting pieces of land that will increase in value over time and if you know contractors, you could be able to get remodels done at a discounted price. Make sure to develop your intuition Have you ever heard the real estate saying, “Location, location, location”? Well, this saying is very true. You need to have some intuition as to what areas will become popular over time, and what areas will deteriorate over time. We recommend avoiding buying property in areas that you are not familiar with. Have the guts to take the leap When it comes to investing in property, you need guts because there will be taxes to pay and there will be times where your rental properties are left unoccupied. Just because your rental property is vacant, doesn’t mean that you don’t still have a mortgage, repairs and maintenance costs to pay. That is why it is so important to choose the right property to invest in. Flipping properties will take guts too. Because the property might not sell as quickly as anticipated, that is when you need to have the guts to hang on or the guts to sell the property at a lower price. The takeaway here is that real estate can be an excellent investment and can generate a great source of income while you are enjoying your golden years. However, you must go about it in the right way. If you are planning on using real estate to build a source of retirement income, make sure to be patient and work systematically as you build a portfolio of income-producing properties. Never jump the gun, do your research and make the right decisions, this way you can enter retirement with peace of mind. This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)