The Financial Wellness Coach: Tax-efficient ways to mak…

Question: I will retire at the end of the year. The pension fund to which I belong pays me 2% of my salary for every year of service. I get 60% of my salary because I have 30 years of service. We are happy to be able to make a living from it. However, I am concerned that my wife, who is five years younger than me, will only receive half of my pension in the event of her death. We are in the process of selling a property and will have 3 million ren available to cover a pension loss for my wife. What options should we consider?

Kenny Meiring

Kenny Meiring MBA CFP is an independent financial advisor. You can contact him at Financialwellnesscoach.co.za. Please send your questions to [email protected]

First published in Daily Maverick 168 weekly newspaper.

Answers: The type of pension you have described is known as a defined benefit pension. The nice thing about this pension is that you know exactly how much you are going to get each year. Even if the stock market crashes, you will receive your pension every month. However, there are two drawbacks to watch out for:

Annual increases

The annual increases in these funds do not always keep pace with inflation, let alone retirees. Medical care and electricity are usually the top expenditures for retirees. These increases were far higher than the consumer price index (CPI).

Spouse’s pension

Many of these funds have a clause that reduces the spouse’s pension by 50% if the pensioner dies. This can be problematic if the spouse does not have their own pension. I would argue that a 75% annuity works better for most people, but that’s not always offered as an option.

When it comes to investing the proceeds of the property, there are a few options that you should consider.

Foundation policy

If you are paying a tax rate greater than 30%, you should consider using endowment life insurance as a vehicle for this investment. Foundations are taxed at 30%. So if your personal tax rate is higher, you can invest in the same portfolios and end up paying much less tax on growth.

You can also tie a beneficiary to the facility to save executor fees. In the case of your investment, this can be up to R120,000.

Your type of pension is usually backed by a 5-year guarantee – the full pension is paid for at least five years, even if you die before that. This eliminates the major disadvantage of foundations, namely that they are not as liquid in the first five years.

You can also access some nicely structured portfolios that are usually not available elsewhere. For example, you could invest in a portfolio that aims for an inflationary return plus 5% with a lower risk profile than would normally be the case for portfolios that aim for aggressive returns like this one.

After the five years have elapsed, you can make withdrawals from the system and use it to supplement your pension or pay unexpected expenses.

When the time comes, your wife can use part of the proceeds to buy an annuity for herself. This should be more than enough to make up for the 50% shortfall in their pension.

Joint annuity

If you need more financial security, you should consider a joint annuity – 3 million Ren should give you an income of around 16,000 R per month, up 5%. This will be paid until you and your wife die.

Retirement rates are good right now and if you stick with them you will have a much safer financial roadmap. This will be more than you need right now, so get into the habit of investing a large percentage of it first. I would recommend:

  • Invest R4,000 per month in a retirement pension. This will reduce your tax burden, make your growth tax-free, and let it mature if you find that your annual pension increases are not keeping up with inflation; and
  • You and your wife each invest R3,000 a month in a tax-free investment. This will create a tax efficient emergency fund in case you have major or unexpected expenses.

There are several other options that you can consider including insured pensions and freely disposable income plans. Talk to a financial advisor and find the solution that best suits your needs. DM168

This story first appeared in our weekly newspaper, Daily Maverick 168, which is available for R25 at Pick n Pay, Exclusive Books and airport bookstores. For your nearest specialist dealer, please click on here.

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