South Africa's New Two-Pot Retirement System
Does it make sense to access your savings pot?
South Africa recently introduced a new two-pot retirement system, and because this is such a perfect interplay between tax and investments - two of my favourite topics - I have to cover this in a blog (and Youtube video).
The mainstream advice is not to touch the savings pot, which is now accessible to you - more on that below. But could it make sense to access this, take the tax hit, and invest it elsewhere? Keep reading for the answer.
There are actually three pots under the new system:
Vested Pot: Your old retirement savings (made before 31 Aug 2024), still governed by previous rules. Upon retirement, 1/3 is paid as a lump sum, and 2/3 as an annuity.
Savings Pot: 1/3 of new contributions (after 1 September 2024), accessible once a year (min R2’000), subject to marginal tax rates upon withdrawal. Seeded by the lesser of 10% of your Vested (old) Pot or R30’000.
Retirement Pot: 2/3 of new contributions (after 1 September 2024), only accessible at retirement, death, or after emigration. Paid as an annuity at retirement.
Here’s an image to explain:
The Savings Pot (or “warm pap”, because it’s tempting to access/eat it), is the focus of this blog - it’s now accessible to members of Retirement, Provident, or Pension Funds. But there is a big caveat: it will be subject to tax at your gross marginal rate if accessed now. And if you wait until retirement, it will be taxed at the much lower lump sum tax rates. Below is the extract of tax tables below. If you fall within the fifth tax bracket, for example, your withdrawal now (before retirement) will be taxed at 39%. However, if you wait until retirement, the first R550k will be tax-free (assuming the brackets don’t change).
But is it smarter to access the savings pot now, pay the tax, and invest elsewhere?
Retirement funds in South Africa are regulated by Regulation 28, which limits the type of investment these funds can make. This is mainly to safeguard against volatility but also restricts the potential for higher returns.
The limit on equity exposure (75% can be invested in shares), but mainly the limit of 45% on international assets results in lower returns. If you are a regular reader, you know my encouragement to have a global stock market mindset. As a firm believer in global diversification, I argue that limiting your international exposure to 45% isn’t sufficient. Historical returns back this up.
Average annual returns on Reg28 funds are under 9% (and could be much lower on some). So what if you invest elsewhere?
Scenario analysis
Let’s assume you fall in the highest marginal tax bracket in South Africa (45%) and you have R30’000 available to you in your savings pot, which was seeded by your vested pot.
Let’s analyze two options:
Keep your R30’000 in a Regulation 28 fund until retirement.1
Withdraw it, pay 45% tax, and a R600 transaction fee. Be left with R15’900. But invest this in an S&P500 fund.2
Let’s see how this plays out:
If you are 35 years old now, for example, and you are 30 years away from retirement. Moving your savings pot into an S&P500 ETF (for example), could mean an additional R800k by retirement - even after the initial tax hit and after considering capital gains tax payable. However, this is based on historical data and isn’t guaranteed.
Close to retirement? This isn’t more you.
As the chart shows, for the first 13 years, the S&P500 investment’s value would lag behind the Regulation 28 fund due to the initial tax hit. Therefore in this example, if you're within 13 years of retirement, it’s not worth taking the tax hit, as the money won’t have enough time to grow to justify it.
Here is the YouTube video covering this topic:
Disclaimer: This is not personal investment or tax advice. Speak to a qualified adviser or do your own research. Accuracy not guaranteed. Carla cannot be held responsible for any actions taken based on this information.
1
The example used is the Sygnia Skeleton Balanced 70 fund, which averaged 8.9% annually since inception. This is a Regulation 28 compliant fund.
2
The example used is the Sygnia S&P500 ETF which has returned 16.5% since inception.