Income Tax Act needs alignment with pensions changes

The Ministry of Finance and Economic Development recently issued a public notice detailing the repeal and re-enactment of the Retirement Funds Act CAP 27:03 (RFA). The amendments to the said Act are expected to take effect some time before 31 December 2022. In this respect, it is imperative that employers and employees take heed of the inherent tax implications that are expected to be brought along with the new amendments of the Retirement Funds Act. Particularly, the RFA will, on commencement, increase the tax-free pension commutation from 33.33% to 50% whilst the minimum amount of a pension which can be encashed in full will rise to P20,000 from P5,000. Keep on reading and allow us to help you understand the critical areas of the amendments and how they relate to Income Tax.

Tax and pensions

Firstly, it is fundamentally crucial that we understand the current regulatory provisions that govern pensions payments for tax purposes. The Income Tax

Act (ITA) generally brings to tax pension received by an employee on retirement or withdrawal from such funds. However, the same Act further provides that where an employee is allowed to commute a portion of his pension on retirement, a third of the pension entitlement is exempt from tax i.e., excluded in determining PAYE.

For clarity, to commute a pension is basically the ability to exercise an option to receive a lumpsum payment and giving up periodic payments e.g., monthly payments. Accordingly, this entails that a person who is entitled to receive pension of, say P100,000 per month, may commute 12months and receive a lumpsum of P 1,200,000 at once. Technically, per the Income Tax Act, one third of the lump sum is exempt from tax i.e., P400,000 (1/3*P1,200,000). Let us now have a look at the proposed amendments to the RFA and how they affect the ITA.

The amendments

Currently, the RFA provides that the commutable amount upon retirement is pegged at one third of accrued savings of an individual. Technically, the one-third threshold provided by the RFA is aligned to the one-third exemption provided by the Income Tax Act. Accordingly, this means that if a person elects to commute his/her or pension savings on retirement, a third of such commutable pension is paid tax-free to the employee.

Now looking at the proposed amendments, the RFA will increase the commutable amount from 1/3 to 50% of the pension savings. In this case, such an increase in the commutation threshold technically means that individuals will be liable to tax on the excess of 50% over the 33.33% commutable portion, i.e. 16.67%. This, we believe, will hurt pensioners and hence the need to amend the tax-free commutation from 33.33% to 50%, following the amendments to the RFA.

Secondly, the RFA proposes to increase the minimum annual pension payment which can be encashed in full from P5,000 to P20,000. Currently, the Income Tax Act provides that where a person’s pension is less than P5,000, it is paid tax-free. This also requires alignment with the new threshold of P 20,000 so that no PAYE is applied on the said new minimum untaxed pension of P20,000.

Conclusion

Having regard to the proposed amendments to the RFA, it is key to consider the tax implications arising from such changes in order to achieve the intended objective i.e., to improve on the pension system. In a nutshell, it is crucial that the exemptions provided in the Income Tax Act be amended to be aligned to the RFA to ensure that pensioners enjoy their lifetime savings.

Contacts: You may contact us on +267 71 81 58 36 or +267 393 9435 or jhore@ aupracontax.co.bw ow www. aupracontax.co.bw. This article is of a general nature and tax advice is recommended if decisions are to be made. If you require to join our free Tax whatsapp groups or to know more about our 9 Tax e-books, please send us a text on the numbers above.