By Brett Ladouce
One of the most important decisions that fund members have to make is how much of their annual income they want (or need) to contribute to their retirement fund to ensure the best outcome.
Various factors play a role in the decision-making process that goes into crafting an appropriate retirement plan.
For many fund members, it is a complicated process to balance immediate needs such as the bond, household expenses, school fees, food, and the ever-increasing electricity provision costs with the need to save and invest for their future needs when they will no longer be willing or able to earn an income.
A retirement fund is the only investment vehicle where the “Tax Man” helps you to save for retirement by providing you with an up-front tax deduction in the year that you make a contribution to your retirement fund. Your retirement fund contribution is deducted from your taxable income when you make a contribution to your retirement fund. You therefore pay less tax on your monthly salary that is “reduced” for income tax purposes by the amount you contribute to your fund in that month. The amount that you can annually contribute “tax-free” to your retirement fund is limited to the lower of 27.5% of your taxable income for that year or R350 000.
If you earn R250 000 per annum, you can contribute up to R68 750 per annum to your retirement fund and thereby reduce your taxable income for the year by up to R68 750. You will therefore only pay tax on R181 250 instead of R250 000. Your income tax bill will be reduced from R27 765 to R15 390, giving you a tax saving of R12 375.
If you earn R500 000 per annum, you can contribute up to R137 500 per annum to your retirement fund and thereby reduce your taxable income for the year by R137 500. You will therefore only pay tax on R362 500 instead of R500 000. Your income tax bill will be reduced from R100 542 to R64 317, giving you a tax saving of R36 225.
If you earn R1 000 000 per annum, you can contribute up to R275 000 per annum to your retirement fund and thereby reduce your taxable income for the year by R275 000. You will therefore only pay tax on R725 000 instead of R1 000 000. Your income tax bill will be reduced from R309 519 to R182 192, giving you a tax saving of R127 327.
If you earn R2 million per annum, you can contribute up to R350 000 per annum to your retirement fund and thereby reduce your taxable income for the year by R350 000. You will therefore only pay tax on R1 650 000 instead of R2 000 000. Your income tax bill will be reduced from R709 604 to R558 784, giving you a tax saving of R150 820.
For those of you who are fortunate enough to earn R3 000 000 per annum or even R5 000 000 per annum, the tax deduction is limited to R350 000 per annum and as you are in the top income tax bracket, the tax saving brought about by your fund contribution is limited to R157 500 per annum.
The importance of income tax considerations must therefore not be underestimated when you and your financial adviser design the most appropriate retirement investment plan based on your wants and needs as it is not every day that you receive a gift from the government.
Ladouce is a pension funds lawyer and the author of Pensions for Palookas
PERSONAL FINANCE