Know the new laws and save on the new taxes
Retirement | Key steps in pension contributions will also make your finances more efficient, writes Lynley Main
WHILE the initial hype surrounding the tax laws and how the changes will affect retirement fund members has subsided, the fact remains that, as of March 1 2016, measures were implemented to help and encourage individuals to save more for their retirement.
According to Romeo Msipha, senior consultant at Old Mutual Corporate Consultants, retirement fund members need to take responsibility and educate themselves about these new laws to maximise retirement savings.
Msipha said one of the main benefits of the amendments was that members of company retirement funds could now contribute more to their funds every month, significantly boosting their retirement savings.
“With the new tax laws surrounding retirement funds, employers’ contributions to employees’ retirement funds will now be taxed as a fringe benefit. Members’ retirement contributions are now tax deductible up to a maximum of 27.5% of either their total remuneration or taxable income — whichever is greater — with a maximum of R350 000 per annum,” he said.
For most members of pension and provident funds, the fringe-benefit inclusion in respect of employer contributions would be offset by the increased contribution rate — 27.5% — that is now tax deductible. This could be illustrated by a common pension fund scenario where the employer contributed 10% and the member 7.5% of pensionable salary. Since March 1 2016, the member is able to claim the full 17.5% — 10% employer contribution plus 7.5% member contribution — as a deduction.
Retirement fund members should be capitalising on this tax break to save more for retirement, he said.
“While the amount a fund member needs to save to enjoy a comfortable retirement will depend on each person’s personal circumstances, it is recommended that any fund member should be trying to save enough to ensure that they receive around 70% to 75% of their salary as a pension once they retire,” he said.
Optimal fund contributions to enable a comfortable retirement
To achieve this target, Msipha said fund members should invest at least 15% of their monthly income over their working lifetime from the age of 25. This was, however, the minimum, and would vary, depending on the different scenarios and circumstances. A contribution of 15%, for example, worked out as the rate likely to provide a pension income of around 70% of a member’s salary — provided the fund member saved for at least 40 years and received average salary increases of consumer price index plus 1%.
On the whole, though, Old Mutual Corporate Consultants recommended a default contribution rate of 18% of a fund member’s monthly income — it assumed salary increases of CPI plus 2%, and was in fact the rate calculated to provide a pension income of about 100% of the member’s salary.
However, Msipha said that for members to be certain of retiring comfortably, they should contribute in the range of 22% to 27%.
“Contributing 22% of a member’s monthly income is most likely to ensure a comfortable retirement for members who save from age 25,” he said. “It is also a good way to ensure that employees who start saving later in life — age 35 — reach a comfortable retirement by age 65,” he said.
A contribution of 27% was advised for individuals who had little or no retirement savings by age 45, but still wanted to retire by 65. Contributing this much would give them a pension income of about 50% of their salary.
These calculations were worked out assuming a moderate investment return of inflation plus 4% and a retirement age of 65 — with the further assumption that no withdrawals were made before retirement and that the member received salary increases at the rate of 1% above inflation.
How employers can help staff retire better
While the responsibility lay with the retirement fund members in ensuring they were saving enough to retire comfortably, employers could play an important role in maximising their employees’ retirement outcomes. The new tax laws around retirement funds now enabled employees who were members of a company retirement fund to make bigger tax-deductible contributions to their fund every month, ultimately boosting their retirement savings.
“Making it easy for an employee to contribute more towards their retirement savings is one of the best ways an employer can help their employees save more towards their retirement in the most tax-efficient manner,” Msipha said.
In order to help staff achieve optimal retirement outcomes, Msipha said that employers needed to offer employees the opportunity to change the amount of money they could actually contribute to their retirement funding. There were six key steps to easily facilitate the changing of this contribution: assess the current minimum contribution; define a flexible contribution scale; negotiate and update employment contracts; establish whether changes needed to be made to the fund rules; partner with employees to help them make the right choices; and adjust the contributions on the monthly payroll submission.
Businesses should make the process as easy as possible to understand. The responsibility lay in providing employees with guidelines on retirement contribution rates that would allow them to retire comfortably. These could include face-to-face workshops and presentations to help individuals understand the practical impact of contributing more. Businesses should further offer employees easy access to financial advice through channels such as workplace advisers or consultants.
It was vital, Msipha said, for employers to drive conversations with individuals in the company that concentrated on the value of the new contribution structure and the way it allowed them to maximise their new tax deductions to grow their retirement savings.
Five core reasons to boost retirement savings
Whether saving for retirement individually, or with the aid of an employer, Msipha said that there were five main reasons members should use their retirement fund to boost their savings and ensure a comfortable retirement. Perhaps the most important reason all retirement fund members should boost their savings was that doing so was tax efficient, he said. The new tax laws, which came into effect on March 1, meant payments into a retirement fund were tax deductible up to a significantly increased limit of 27.5%. There were additional tax breaks on the lumpsum cash portion taken at retirement, and any contributions not deducted from tax could be used to reduce the amount of tax on the lump sum taken at retirement and even on the pension income.
A further reason to boost retirement savings was that the growth on retirement investments was altogether tax-free.
“Individuals that invest their savings outside of retirement funds or tax-free savings vehicles are subject to a number of different taxes on the growth of the investments. For instance, interest earned on cash and fixed-interest investments is taxed as income; dividends earned on shares are taxed and the investment manager must withhold this tax; and any capital gains earned when the investments are eventually cashed out are taxed,” Msipha said.
It was vital to bear in mind that the investments in a retirement fund were free of all such taxes — significantly improving growth and sav- ings over the long term.
Importantly, he said, using retirement funds to enhance savings was cost effective for fund members. Members paid lower investment and administration costs than they would if they tried to save the same amount outside of their fund.
What’s more, there was no estate duty on retirement investments — with the exception of uneducated (nonconcessional) contributions. Broadly speaking, when an individual died and their net estate was more than R3.5-million, the estate would be taxed at 20% before the proceeds were paid to the heirs. Retirement fund savings were excluded from the individual’s estate and did not attract this tax.
Finally, Msipha said, creditors could not access retirement fund savings in claiming any money owed to them. “In the event that an individual is unable to meet their debt obligations, or is declared insolvent, the broad principle is that all their assets, with the exception of their retirement fund savings and certain long-term policy benefits, as set out by section 63 of the Long Term Insurance Act, can be attached by creditors.”
Retirement savings are one of the best ways to help employees save more