According to a study, 90% of people who retire with money from their retirement funds buy living annuities to provide them with a regular income in retirement. So what are living annuities? And what are life annuities? Are life annuities dead? I would like to explain these two types of products for provision of retirement income. It would be very beneficial for you to generate a more detailed financial plan to give you a better understanding of your options. You can use this tool from 10x. Life annuities and living annuities are the two main products that can provide you with an income from your retirement savings. A life annuity is an insurance-type product and a living annuity is an investment-type product. Each of these meets different needs so you will need to decide which will best meet your particular goals. Life Annuity Life annuity is also called fixed annuity or guaranteed annuity. A life annuity is a contract between you and a life insurance company. You give the life insurance company a retirement capital lump sum. In return, it secures you a pre-determined income for the rest of your life. There are different types of guaranteed annuities. Some provide an income that increases with inflation, others pay a level income and others yet may increase over time, subject to market returns. In order to ensure a level of income that sustains your lifestyle needs, you should consider an inflation-linked life annuity, which provides an income that keeps pace with inflation. Although your income is guaranteed for your whole life, your income ceases when you die. Your heirs won't be able to inherit whatever is left on the death. In other words, the capital dies with the investor. For the sake of guaranteeing value for money, I suggest you purchase a life annuity with an underlying guarantee of income for a minimum period, typically between 10 to 20 years. This period is called a guarantee period. A life annuity with a guarantee period will pay a slightly lower retirement income than one without a guaranteed period. Typically, you also have no say over the initial income and no flexibility to change your income or to move to another annuity or service provider once you've purchased the product. It is wise to use a financial advisor to get quotes from reputable annuity providers, to get the best initial income, terms and conditions. Living annuity On the other hand, a living annuity provides investors with flexibility to choose their income each year (subject to regulatory limits) and where their money is invested. This will give you the flexibility to draw a lower or higher income as and when your needs change. It will provide you with the flexibility to change service providers or purchase a guaranteed annuity at any time. Any remaining capital upon death passes to your heirs. However, in exchange for this flexibility, you take on the risk that the income may not last for your retirement years (on average about 30 years), as well as the risk that their investment returns are poor. This means that your future income could fail to keep up with inflation, or even that you outlive your savings. Below is a table summarising the difference between an inflation-linked guaranteed annuity and a living annuity:
Tax At retirement you may cash in up to 100% of the value of your provident fund, up to one-third of the value of your pension fund, and up to one-third of the value of your retirement annuity. However, there are potentially tax implications to taking a portion in cash. The table below shows you the tax rates for various cash amounts taken at retirement.
In addition to the tax above, the income you receive from either a life or living annuity would be taxed as per the applicable income tax table.
Which one should you buy? There are three possible options: A life annuity, a living annuity, or a combination of the two. Yes, it is possible to deploy your retirement capital to both types of products at the same time. There are two important factors to consider when you buy annuities: Health and flexibility. If you are healthy and your family exhibits a history of longevity, you should consider buying a life annuity with at least part, if not all of your retirement capital, with the balance in a living annuity. People that live longer will score with a life annuity, as they will get (a lot) more than they put in. While the liviing annuity gives you the flexibility to adjust your income as and when your needs change. If you are not healthy, e.g. having chronic conditions such as diabetes, heart conditions, hypertension, you may want to put most, if not all of your retirement capital into a living annuity. This way, you can enjoy the fruits of your years of hard work and savings while still alive, and able to leave the balance to your loved ones when you die. The balance is invested in a life annuity, to provide you with some guaranteed income. With a living annuity, the recommended drawdown rate, the percentage of the capital you draw as income, is 5% per annum. This would ensure the money should last you for up to 30 years in retirement. If you need a higher level of income, you should buy a living annuity, which allows you to withdraw up to 17.5% of your capital as income. Bear in mind that the more you withdraw, the quicker the money in a living annuity runs out.
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Delaying saving for retirement is not uncommon. Other life costs seem more important – there’s a wedding to pay for, a deposit for a new house to put down, a baby, school fees and that holiday you absolutely must take. And, even for those of us who have been forced to save (thanks to a compulsory pension fund or retirement annuity deductions at work), it might not be enough. It certainly pays to start saving as early as possible, but if retirement is suddenly closer than you realised and you haven’t saved enough, it’s never too late to start. Make the most of your time It’s not only the amount of money saved that counts, but also when we start saving. The earlier you start, the more affordable the amount of money you need to put away each month will be. More than half of us only start saving at age 28, instead of when we start working. And there are many people who only start in their thirties, or later, when they hit 40. The thing is, it’s not just about “catching up’ savings over the last five/10/15 years that you've missed. That’s a tall order in itself. It's about making up the compounded returns you've completely lost out on! Imagine a saver, Xoliswa, who starts saving for retirement at age 25. (Please note that the following calculations illustrate a point about compounding and time, and do not account for inflation-adjusted increases in contributions.) Saving R5 000 a month, at an average 6% return per year over time, she’ll have more than R7 million by age 60. Mark starts saving at age 35. He will only have R3.46 million at age 60 less than half what Xoliswa saved. To get anywhere close to Xoliswa’s amount, he’ll need to save R10 000 a month to reach R6.9 million in his 25-year investment horizon. Starting even later – at age 45 – and you’re in an even more difficult scenario. Even saving R20 000 a month – four times what Xoliswa started saving at age 25 – won’t even get you to R6 million. That’s why it’s so important to follow Xoliswa’s example and start saving for retirement as early as you can. But even if you’re starting saving late, the most important thing is that you’re starting. How much do you need? Figuring out how much you should have saved is tough. The general rule of thumb in South Africa is that you’ll need to be able to replace 75% of your income to retire comfortably. This assumption relies on the fact that you won’t have a home loan or any other large debt by that age, which means your monthly expenses will be lower. But, increasingly, financial planners are beginning to work on a 90% replacement ratio (especially since medical expenses tend to rise after retirement). Assume you’re retiring today with a final salary of R40 000 a month (R480 000 a year). To replace 90% of your salary, you would need R10.8-million saved to maintain your standard of living (note that this amount also takes account of the 4% rule, which we will discuss in more detail in a later article). Most people will be very lucky if they have three-quarters of that. Boosting your savings So, if you’re nearing retirement and you’ve come to the conclusion that you need more savings to retire comfortably, you need to consider the following points:
To start saving for your retirement, please contact Kevin or Ray, email: invest@daberistic.com tel no: (011 658-1333) Source: Discovery Around this time of the year, we would like to remind you to consider topping up your retirement annuity fund. Discovery is one of our preferred providers for Retirement annuity and it makes your life easier for you by:
Your contribution must reach Discovery by 28 February 2018 for your investment to go through before the end of the tax year. For more information on the Discovery Retirement Plans, please respond to this mail so that I can arrange an appointment with you. To top your retirement annuity , please contact Kevin or Ray, email: invest@daberistic.com tel no: (011 658-1333) Source: Discovery Never underestimate the power of being clued up and learning the basics of retirement speak. These terms should get you off to a good start: Provident Fund If you are working for a company, you’ve probably heard of this one. It is a compulsory saving tool set up by your employer. Your contribution is taxed, but your employer’s isn’t, so often the employer makes the contribution on the employee’s behalf. At retirement, the fund’s benefits are fully available in cash once the tax has been paid. Retirement Annuity This is similar to a provident fund but is a retirement-saving vehicle largely used by self-employed individuals or those without a provident fund option at work. There is a tax saving, as contributions are subtracted from your gross annual income before tax is calculated. At retirement, only a third of the capital can be taken as a lump sum. The remaining two thirds must be used to purchase a compulsory annuity product such as an investment – linked living annuity or life annuity. Fund benefits can only be accessed at retirement (usually after the age of 55). Preservation Fund If you’re planning to change jobs, this is definitely one to remember. Preservation funds are literally meant to preserve capital. There are two types of preservation funds: a pension preservation fund and a provident preservation fund. If you belong to a pension fund: On resignation, you can transfer your funds to a preservation pension fund. No tax is paid when the money is transferred and the fund allows for a single withdrawal of any capital prior to retirement. At retirement, a maximum of one third of your capital can be taken as a cash lump sum, while the remaining two thirds must be used to purchase an annuity. If you belong to a provident fund: On resignation, you can transfer your funds to a provident preservation fund. No tax is paid when your money is transferred, and the fund allows for a single withdrawal of any capital sum prior to retirement. At retirement, the total capital can be taken as a lump sum, or you can use the cash to purchase an annuity. Defined-benefit retirement fund This is a traditional pension fund that considers, among other factors, the number of years you have been part of the fund and your salary at retirement, to define the benefits accrued. The advantages are that you don’t take on the investment risk, and you can calculate the exact amount you receive at retirement (that is a percentage of your final salary). The downside is that your pension may not keep pace with inflation because increases in contributions and benefits are at the discretion of the fund’s trustees. There are not many of these funds around today because most companies have moved over to defined contribution funds over the past few decades. Defined contribution retirement fund Contributions to this fund are paid by the employer and the member but, unlike a defined benefit retirement fund, the amount of money you receive on retirement is not guaranteed. The member decides where the fund invests their contributions and takes on the full investment risk. If the markets yield good returns, you may have a much higher pension at retirement but if they do poorly, you could stand to lose. To get an appointment with our Financial advisor to discuss the different options, please contact Kevin or Ray, email: invest@daberistic.com tel no: (011 658-1333) Source: Sanlam Many people have negative perceptions about retirement annuity. I must state categorically that this is a powerful tool in any investor’s financial and tax planning. A retirement annuity is a long-term investment structure for building retirement savings, either on a recurring basis or by making a lump sum investment. A retirement annuity offers significant tax advantages to people who are committed to investing their money until they are at least 55 years old. A portion of your retirement annuity contributions is tax deductible. The current legislation allows you contributions to retirement funds of up to 27.5% of your taxable income as tax deduction, subject to a maximum of R350,000 in a tax year. All your investment growth, including interest, dividends and capital gains within a retirement annuity is tax free.
At retirement age, you may withdraw a portion of your retirement annuity account tax free. Currently the first R500,000 lump sum benefit is tax free. The balance of the account will be used to purchase a fixed annuity or living annuity, to give you a monthly income. You can select the underlying investment portfolios in a retirement annuity. These investment portfolios are compliant with Regulation 28 of the Pension Funds Act, to ensure your money is invested prudently across a number of asset classes. Before retirement, there are three scenarios where you may access money in your retirement annuity account: In the event of your death, the money is paid out to your beneficiary. In the event of ill health and you are unable to work, you lodge a claim for a disability benefit – and not a withdrawal benefit – from your retirement fund. When you emigrate or when you leave South Africa due to an expired work visa, you can withdraw the full value in cash (subject to tax). There are two types of retirement annuity products: Life assurer retirement annuity and unit trust retirement annuity. With a life assurer retirement annuity, you enter into a contract to commit to pay contributions until your selected retirement age. Should you reduce or stop contributions during the first half of the term, you will pay a penalty charge, which reduces your retirement annuity account value. Some life assurers will reward you with bonuses paid into your account for being disciplined with your monthly contributions over the term of the contract. While a life assurer retirement annuity is rigid, a unit trust retirement annuity gives you flexibility. You may increase, reduce or stop contributions at any time without penalties. You may wish to consider investing in a retirement annuity fund if:
A word of advice: If compound interest is the first Financial Wonder, then I consider retirement annuity to be the second Financial Wonder in South Africa. This group of unit trusts typically has a relatively high weighting, up to 75% of the money, invested in the stock markets, or equities. Most balanced (or known as multi-asset, high-equity) unit trusts invest according to Regulation 28 of the Pension Funds Act, which means up to 75% of its money invested in equities, up to 25% invested offshore, up to 5% invested in Africa, with the balance invested in bonds, money market and property. It may have some exposure to precious commodities such as gold.
Generally this group of unit trusts invest its money for retirement fund members in South Africa, so it is fairly moderate in its risk management approach. It would not want to risk people’s retirement savings. It invests in quite a number of different assets and different companies to diversify. Return profile: Expected higher returns over the long term (5 to 10 years plus), on average 8% to 12% per annum. Volatilities: As stock markets fluctuate, reacting to news and market sentiments, balanced unit trusts also fluctuate daily. It goes up one day, down the next. It goes up one month, maybe down the next. However, the price movements are muted compared to High Growth Unit Trusts. Who is it suitable for:
People often believe that if you gather significant assets during your lifetime and put enough into your retirement or pension fund during your career, you don't have to worry about living comfortably in your later years. But in an environment where medical costs are rising and markets are constantly fluctuating, is that really true? Here's a figure that might be surprising if you are planning to retire soon and haven't considered your health care costs. If you are 65 and retiring this year, you will need about R990 000 during retirement to keep up the same cover you currently enjoy. For a couple, that total is about R1 990 000. (assuming you are on the Discovery Health Medical Scheme, on the Classic Delta Comprehensive Plan, a contribution of R4059 to your plan, and that your retirement grows in line with medical inflation- currently CPI +4%). These numbers are based on the assumption that a man will live to be 85 and a woman 87, however with publications like the scientific research journal Nature reporting that children born in 2000 will live to be 100 years or older we may need even more retirement and medical savings in the future. With our longer life spans, financial planning for retirement has never been more important if we want to maintain your lifestyle over the long term. So how much is enough? It’s easy to miscalculate how much you’ll need in retirement. Underestimate what you will need and retire too soon and you could run out of money in your retirement years. Overestimate and you might keep working longer than is necessary or deprive yourself of trips, restaurant meals and other luxuries unnecessarily. Bottom Line Personal asked retirement-planning professor, Michael Finke, what he sees as the top 3 most common mistakes made by people when planning for retirement. Number one, he says is that people often overestimate the amount medical aid and insurance will cover, number two, that they underestimate health-care inflation and the third mistake that they do not consider or factor in the possibility that they could need long-term care in retirement. On how to more accurately estimate medical expenses in retirement Finke suggested that you start with what you currently spend on health care annually, or if that figure has fluctuated greatly, take the average you have spent over the past five years. Then also factor in that the Consumer Price Inflation (CPI) in South Africa has increased by 6.3% a year on average since 2008, and medical scheme contributions are increasing by at least CPI 3-5% annually. What can we do to plan better for the future? It is important to engage in a healthy lifestyle. 60% of diseases afflicting people worldwide are lifestyle diseases. To help aid in a happy, active retirement, protect your health by embarking on regular exercise, a balanced diet and maintaining a weight that is correct for your body type. The healthier you keep your body; the better the chances are that you would not need to spend as much money on healthcare bills as you age. Of course, there are will always be unforeseen illnesses which will catch you off guard but it is important to make provisions where you can, so that medical bills will be one less thing that you would need to worry about as you enter into retirement. Invest in yourself and pick the right plan Government care may be sufficient for many pensioners; however, many may require immediate or specialised levels of care that are not readily available at state facilities. Some medical schemes may also impose substantial late joiner penalties, waiting periods and exclusion if a pensioner joins for the first time. Having adequate retirement funds to cover medical cost will ensure you get the care and treatment you need when you need it. Covering your medical expenses in retirement requires planning and Discovery Invest has created funds that help you fund your healthcare expenses in retirement. They also give you up to 15% more money for your retirement savings. To get us to review so as to ensure sufficient retirement savings, please contact Kevin or Thato, email: invest@daberistic.com tel no: (011 658-1333) Source: Finance24 |
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January 2025
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