Tax free savings accounts or retirement annuities: What you need to know
By Michael Kirkpatrick
The start of a year is a great time to re-assess where we are in our journey to financial well-being and turn our attention to creating a financial plan for the rest of the year.
One of the most important aspects of this planning is considering the best combination of products in the market for your personal circumstances and needs. This includes tax efficiency, availability of investment funds, value for money, cost structures and access to the funds if you require them.
In South Africa we have access to several longer-term savings products that all have their own unique features that could provide some benefit to you. Two such savings products are retirement annuities and tax-free savings accounts, and here is how they can offer value to you when it comes to your savings:
A retirement annuity is an investment product that you can make once off and monthly contributions to in order to bolster your retirement savings. RAs offer tax efficiency for both income tax and tax on investment returns. An RA works similar to a company pension fund – but without the employer. The benefits you get are:
Income tax: Contributions to retirement annuities are tax deductible, up to a limit of 27.5% of your income capped at R350 000 a year. This limit includes all contributions made across all your company retirement funds and retirement annuities. This benefit becomes more important the higher your current and future expected tax rates are.
Tax-free returns: Any return earned within the retirement annuity is tax free. Over the longer term this will have a significant benefit to your savings.
Access only after 55: For many people having a nest egg squirreled away that they can’t access is of great value to them. They know that if they could access the funds, they may be tempted to use the funds for more in the moment expenses sacrificing the long-term goal.
When you retire from your retirement annuity, you can take up to a third in cash. (This is after tax: the first R500 000 lifetime allowance is tax free and the rest is taxed on a sliding scale.) You must use the remaining money in the retirement annuity to provide you with a pension (income for life). This pension or income will then attract income tax.
Tax-free savings accounts
Tax-free savings accounts have grown in popularity since they were introduced in 2015. The government has provided a strong incentive within this product: tax-free returns. Over the long term this will have a significant benefit on your savings.
There are limits to the amount you can contribute to a tax-free savings account every year and over your lifetime. These limits are at a reasonable level and would cover many people’s needs.
To get the most out of this product, you need to be invested for the longer term so that you can benefit from the intended longer-term growth of the investment.
Get professional financial advice
There is no one-size-fits-all solution or combination of products. Every person is different and to have the most effective planning, individuals need to be treated that way.
We all have goals in life, and the first step to reach these goals is to have a plan in place. The more you stick to your plan, the closer you’ll get to your goal. Research shows that people who seek financial advice hold higher quality products with better outcomes. These people also have a higher savings rate and longer savings periods – all positive behaviour aimed at securing their financial well-being.
It’s never too early to start creating the future you want to have
It’s not easy thinking about the future, especially in these incredibly difficult times, and one can easily feel overwhelmed. It’s so important when making these types of decisions to approach a professional financial adviser for advice. They can review your individual circumstances, current savings and your long-term and retirement goals. Critically, this should be done as a family, so don’t forget to bring your spouse or partner into the planning – you must have a common goal. And together you can co-create the right plan for your family to reach those goals.
Michael Kirkpatrick is the head of individual consulting best practice at Alexander Forbes