Understanding the new rules around retirement fund contributions
As of September 1, 2024, new reforms regarding retirement savings, known as the 2-pot retirement rules became effective.
These new rules culminated in extensive consultations, which began in 2019 between government bodies, insurers, retirement fund administrators, and other key stakeholders. The rules were influenced by global best practices, including how retirement funds are administered in countries like Singapore, Chile, and the United States.
One of the key objectives of the changes was to provide individuals greater flexibility over the use of their retirement savings while balancing this with the need to lock in savings for retirement. The changes are expected to significantly reduce occurrences of employees resigning from their employment just so that they can access their retirement savings, which was until now a fairly common practice.
The new rules apply to contributions to retirement funds, such as pension funds, provident funds and retirement annuities. It does not apply to products such as living annuities, which are products purchased with retirement savings at retirement age. The new rules focus on the savings or accumulation phase and not the disbursement phase. This also means that the system will not impact those who have already retired. However, if you deferred your retirement then the system will apply to any contributions you will continue to make.
So, what are the two pots?
Pot #1 Retirement Pot – the “Can’t touch this Pot.” This pot is designed to ensure long-term financial security. Contributions to this pot are preserved until retirement and can only be accessed to provide income after retirement, which is at the earliest 55 years of age. Two thirds of your contributions go into this pot.
Pot #2 Savings Pot – the ‘Can touch this Pot, but you should try not to.” This pot offers more financial flexibility. Members can access funds in this pot before retirement, but they should use these funds sparingly, and only in times of genuine financial crisis. One third of your contributions go into this pot.
The savings pot will still be invested in your chosen funds as allocated in your pension /provident fund or Retirement Annuity (RA) and according to your chosen risk profile. There is a misconception that this portion is invested into a separate money market account which is not true.
So, is there a third pot?
It is important to understand that the legislation is prospective. That means the new rules only apply from 1 September 2024 onwards. All retirement saving contributions prior to 1 September 2024 will continue to be administered in line with the “old” rules. So, the funds invested prior to 1 September 2024 could be called the “Pot#3.” This third pot is known as the “vested” component.
There is an exception to this rule. 10% of existing retirement funds, capped at R30,000, will be transferred to the Savings Pot as a once-off. This is designed to get the savings pot growing and is referred to as seed capital. It does mean that you can access this 10%, but as mentioned it is not recommended, as the point of this amount is to get the savings pot growing.
Withdrawals - tax effects and the impact on your retirement fund growth
As mentioned above, although you can withdraw from your savings pot, you should try not to do so. If you do believe you need to withdraw from you Savings Pot you should at least have a conversation with your financial advisor, so that that you fully understand the consequences. We briefly touch on these below.
If you withdraw money from Pot#2 the Emergency savings pot, those funds will be taxed at your normal tax rate (also referred to as your marginal tax rate). So, this means that when you withdraw these funds you lose the special tax benefits that apply to retirement fund investments.
Contributions to retirement funds are not taxed, this allows the money to grow faster due to the impact of compounding returns. So, remember, when you withdraw funds from the savings pot you will negatively impact the growth of your retirement fund investments, and you will be charged the tax at your normal/nominal rate.
Secondly, when you retire, the tax rate you pay on your retirement fund payouts is at a special lower/reduced tax rate – the retirement tax tables. Withdrawing funds early means you also lose the benefit of applying the lower retirement tax tables on that money you are withdrawing early as you are taking the money now and paying tax using the standard marginal tax tables.
Let’s think about how this works practically.
Simphiwe is 35 years old and is considering withdrawing the R30,000 that will be transferred to his Savings Pot.
He needs to consider that he will be taxed on this. His marginal tax rate is currently 31%.
Therefore, he will be able to take home R30,000 x 69% (100% - 31%) = R20,700
However, if he does not withdraw the funds and leaves them there till retirement, the R30,000 will grow to R503,133 at an annual rate of return of 8% compounding annually. Tax will then be paid out using the lower retirement tax tables. (For example, he can withdraw R550, 000 tax-free at retirement instead of paying tax on the capital he is withdrawing now. (One third of his retirement savings in a retirement annuity (RA) are available tax-free at retirement as a cash lump sum).
So, you can clearly see that there is a high cost for accessing that R20,700.
How do I withdraw money from my Savings Pot?
Each retirement fund/company has its own process in place to accommodate withdrawals, so it is best to consult your retirement fund administrators, your employer’s HR department, or your financial advisor. Withdrawals will be processed, and a tax directive will need to be obtained from the South African Revenue Services (SARS). You need to remember that the minimum withdrawal amount is R2000 annually. The administrator/company will apply for the SARS tax directive on your behalf and deduct the required tax before paying out your cash withdrawal.
What should my reaction be to these new rules?
Although, much has been made about the new rules, and although it is important to understand the changes, your approach to retirement planning should not change fundamentally. Generally, we think it is a good idea to carry on as normal. Continue to treat the funds in the savings pot as inaccessible. This will ensure that you obtain maximum benefit from the growth potential of these funds and so that you still have a decent pot of gold at the end of the rainbow when you retire.
Withdrawing from your Savings Pot should only be done for exceptional reasons, like an emergency or where there is a clear opportunity to better your overall financial position. In all cases, consult your financial advisor.
Please note that the above article constitutes financial education and should not be construed as financial advice. If you have questions about the two-pot retirement system or about your financial planning needs, call us at 087 183 5012, WhatsApp us at 076 451 6944, or email us at info@zenmunni.co.za to get in touch with an authorised financial planner.
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