DANIEL BAINES: Drawing retirement savings early has heavy tax implications
Depending on the type of retirement fund you have, you may or may not be able to liquidate your retirement savings before reaching retirement age
If you have savings in your retirement fund, you may be tempted to withdraw them before you reach retirement age. Ideally it is a temptation you should avoid as it will seriously compromise your ability to retire comfortably. It may also have severe tax implications.
Depending on the type of retirement fund you have, you may or may not be able to liquidate your retirement savings before reaching retirement age.
There are three primary retirement funding options available in SA. These are a pension or provident fund, a retirement annuity fund or a preservation fund. Pensions and provident funds will be dealt with together as their tax implications are the same for the purposes of this article.
Pension and provident funds are linked to your employment, so if you leave your employer, you have the option of liquidating your fund in full. This is obviously not recommended as you will then be saving for your retirement from scratch when you start your new job.
If you do liquidate your pension or provident fund at this point, you will be taxed at a high rate, in line with what is known as the retirement fund withdrawal tax table.
A better option is to transfer your pension savings to the fund your new employer gives you access to. Or, if your new employer does not provide a company pension or provident fund, you have the option of transferring your savings to a preservation fund or a retirement annuity (RA)..
You cannot make further contributions to a preservation fund, but your money is invested tax-free and will hopefully grow over time. There are no negative tax implications to transferring your funds into a preservation fund, RA or to a new pension or provident fund with your new employer.
Your other option when leaving your employer would be to take a portion of your pension and pay the tax. A withdrawal up to R25,000 is tax-free - so you could withdraw only that amount and preserve the rest. However, be aware that if you use this R25,000 you will never have access to this tax-free withdrawal again - the withdrawal tax table is cumulative over your lifetime.
If you already have a preservation fund - either a pension preservation fund or a provident preservation fund - you are allowed one withdrawal from that fund prior to retirement.
The only other way to access these funds is if you formally emigrate through the South African Reserve Bank (Sarb). Other than formally emigrating, you must wait until you reach your retirement date in terms of the fund rules (which could be from 55 years old) in order to liquidate a preservation fund; this is presuming that you have already made one withdrawal from the fund.
If you liquidate your pension preservation fund upon reaching your retirement date, you will only be entitled to withdraw a third of the amount and the remainder will have to be used to buy an annuity or monthly pension.
Any withdrawal from a preservation fund before you reach your retirement age will also be subject to the high tax rates provided for in the withdrawal tax table.
If you have a retirement annuity, there are only three circumstances under which you can liquidate the fund prior to reaching 55. The fund value must be less than R7,000, you must formally emigrate through the Sarb, or you become permanently disabled.
Other than the above three situations, you will have to wait until you are 55 to liquidate your retirement annuity, at which point you will only be able to withdraw one-third of it; the remainder will need to go into an annuity. If you fall into one of the above categories, the liquidation of the fund will also be subject to tax according to the withdrawal tax tables.
The taxation of the money you withdraw from any of the three types of retirement funds is best illustrated by an example.
Example: Withdrawal from retirement fund prior to reaching 55 years of age
Value of fund - R1m
Amount of withdrawal - R500,000
Tax payable on withdrawal - R85,500
Amount received after tax paid - R414,500
Percentage tax paid - 17.1%
The greater the amount that you are withdrawing from your retirement fund, the greater the tax paid. For example, if you were to withdraw the full R1m, you would pay R207,000 in tax, or 20.7% of the amount withdrawn.
It must also be borne in mind that withdrawing from a retirement fund prior to reaching 55 does not only have a tax effect when you withdraw, but will also affect the amount of tax you will pay if you withdraw again later from your retirement savings.
This is because the withdrawal and retirement tax tables are cumulative over your lifetime. In other words, if you withdraw R25,000 from your retirement funding now, you won't pay tax, but if you were to draw another R25,000 at a later stage (for example, when you move to a new employer), that R25,000 would be taxed.
In addition, if you withdraw R25,000 now, this would negatively affect the lump sum tax that is payable when you retire and withdraw your savings from your fund.
• Baines, a tax consultant at Mazars, is the author of How to Get a Sars Refund