Two-pot retirement system: How to maximise your tax benefits

The two-pot retirement system has made it easier for pension fund members to access a portion of their retirement savings in the case of an emergency, but with this access comes another emergency: you have to pay tax on your withdrawal.

Since the two-pot retirement system was introduced in September last year, more than two million pension fund members already used the withdrawal benefit, with more than R43 billion paid out so far, according to Sars.

“If you made a withdrawal from the savings component of your retirement fund under the two-pot retirement system in the current tax year, you should consider replenishing this amount before the end of February to restore your position,” Carla Rossouw, head of tax at Allan Gray, says.

ALSO READ: Two-pot retirement system: People taken aback by amount of tax – survey

She emphasises that although the two-pot retirement system allows you to access the savings component of your retirement fund once every tax year does not mean you should. “Withdrawing should not be viewed as an annual event that must happen.”

Topping up your savings under two-pot retirement system

However, Rossouw says before you decide how to top up your retirement fund, it is worth weighing up the tax benefits of different investment products, specifically retirement annuities (RAs) and tax-free investments (TFIs).

“You can claim a tax deduction for all contributions to your retirement investments of up to 27.5% of your taxable income every year, capped at R350 000 per tax year. However, if you do not use this benefit, you forfeit it.”

As an example of how maximising your tax benefit every year can help you in retirement, Rossouw uses the example of investors who contribute 15% of their monthly salary to an RA from the age of 30 to 60.

At the age of retirement, those investors would have saved up R15.5 million. However, if they contributed an extra R10 000 lump sum every year, their ultimate retirement savings would be 20% higher at R18.6 million.

ALSO READ: How to choose the right retirement investment products

Rossouw points out that retirement funds as well as TFIs offer tax benefits, such as no tax on interest, dividends or capital gains, but they each have restrictions.

“TFIs, for example, do not allow you to make tax deductions and you cannot invest as much money in them as you would in an RA but the advantage with TFIs is that, unlike RAs, there are no asset class restrictions and you can access your investment at any point in time.”

Restrictions for TFIs

However, there are restrictions in terms of how much you can contribute to TFIs. “Sars allows taxpayers to save a maximum of R36 000 per tax year and R500 000 in your lifetime tax-free and there are tax implications for overcontributing. You can incur a tax penalty of 40% on any amount over the contribution limits.”

She says a tax-free investment (TFI) can help you save for a specific goal or to supplement your retirement investment.

Regardless of whether you invested in an RA or a TFI (or both), you can benefit significantly by topping up your investment before the end of the tax year, Rossouw says.

“It is always a good idea to maximise the tax benefits on offer, but even more so in a two-pot retirement system world if you have withdrawn from your retirement fund recently and want to restore your position.”

ALSO READ: Two-pot retirement system: SA workers are the losers with tax

You pay tax every time you withdraw under two-pot retirement system

She says consumers must remember that each time you dip into your RA’s savings component you are taxed at the marginal tax rate on the amount you withdraw. This can be as high as 45%.

“In addition, withdrawing before retirement reduces the amount available as cash when you retire. Even if you do replace the amount withdrawn, you will lose out on any investment growth in the meantime.”

If you want to take advantage of tax benefits before the end of February, you have a few options, Rossouw says.

“You can make an additional contribution, either in the form of a lump sum to your RA or, if your employer has a retirement fund, an additional voluntary contribution. You can also start an RA in your own name or create a TFI to save for a specific goal or to supplement your retirement investment.”