Tax planning makes up an essential part of retirement planning. Tax planning applies to the build up of your retirement capital, what happens at retirement and what happens to your estate or accumulated wealth when you die. These issues were the subject of the presentation by John Kinsley, a general manager of financial services company, Syfrets, at the recent national Personal Finance/ TMA Investment Products Services "Truth about Retirement" seminars.
Taxation on retirement funds is in a state of flux, John Kinsley told the Personal Finance/TMA Truth about Retirement seminars.The driving force for the changes is the Katz commission of inquiry into taxation. Katz's main recommendation was to change the taxation structure on retirement funding, treating pension funds and provident funds the same for tax purposes.
The pre-Katz commission system was one of exemption from taxation on contributions; exemption from taxation on the investment growth of the your retirement funds; but taxation on your retirement benefits. This was called the Exempt Exempt Taxed (EET) structure. However, Katz changed this to a Exempt Taxed Taxed (ETT) system by recommending the government introduce a new 17 percent tax on the interest and rental income of your retirement fund. This tax was introduced last year. Kinsley said this may not sound like much, but the effects could be substantial in the longer term. A few examples are provided below.
The 17 percent tax was however only step one in the Katz proposals. The next step, which could be introduced after the National Retirement Consultative Forum reports to government later this year, includes measures to get rid of the tax differences between pension and provident funds.
Kinsley said Katz has recommended that all retirement funds be taxed on the same basis on retirement. Katz recommended that the first R50 000 of your retirement benefits should be tax free. Katz has also recommended that tax incentives should encourage you to buy a monthly pension with some of your accumulated retirement funds.
These incentives are:
* Any portion taken as an annuity (regular pension payment) should be exempt from tax up to R120 000 of your retirement capital;
* If you use more than R120 000 to purchase a monthly pension, then 50 percent of any further portion is also exempt from tax up to a maximum of R210 000 of your retirement capital.
This would give you a maximum of R380 000 of your retirement capital exempt from tax on a lump sum of R540 000 invested in a monthly pension.
The rest of your retirement capital would be taxed on a sliding scale at marginal rates up to a maximum of 45 percent which would click in at R750 000 after the deduction of the R380 000 tax-free amount. You could use all your retirement capital for a monthly pension but you will get no tax credit beyond the R380 000.
An investment of R540 000 giving you the maximum R380 000 tax benefit, would buy you a taxable monthly pension of R5 300.65 at current rates if you were a man aged 60. Women would get less because they live longer.
Here are three scenarios:
Scenario One: Not purchasing any monthly pension:
Capital SumR1 500 000
Tax FreeR 50 000
Taxable AmountR1 450 000
Tax on the first R750 000R 202 500
Balance at 45 percentR 315 000
Tax payableR 517 500
Investable FundsR 982 000
Scenario Two: Purchasing a monthly pension with the full amount:
Capital SumR1 500 000
Tax FreeR 380 000
Taxable AmountR1 120 000
Tax on the first R750 000R 202 500
Balance at 45 percentR 166 500
Tax payableR 369 000
Investable FundsR1 131 000
Scenario Three: Using R540 000 only to buy a monthly pension:
Capital SumR1 500 000
Tax FreeR 380 000
Taxable AmountR1 120 000
Tax on the first R750 000R 202 500
Balance at 45 percentR 166 500
Tax payableR 369 000
Investable FundsR 591 000
Plus annuityR 540 000
TotalR1 131 000
Kinsley said the difference between scenario two and three is that in scenario three R591 00 is available to invest at your discretion. Only the R540 000 is locked into purchasing an annuity income stream. The discretionary funds allow you to structure more tax-effective income streams, greater flexibility and a greater choice of investments.
LONG-TERM EFFECTS OF KATZ PROPOSALS
MembershipContributionsPre-Katz TaxPost-Katz TaxDifference
11 yearsR8386R113292R109123 3,82%
21 yearsR26045R773819R718454 7,71%
31 yearsR80892R4110390R366959412,01%
Source: Ginsburg, Malan & Carsons