Know your retirement fund

Last updated on 5th December, 2018 at 02:44 pm

Never underestimate the power of being clued up and learning the basics of retirement speak. These terms should get you off to a good start…

What is a provident fund?

If you are working for a company, you’ve probably heard of this one. A provident fund is a compulsory savings tool set up by your employer. Often the employer makes the contribution on the employee’s behalf and since 1 March 2016 the employer contribution is a taxable fringe benefit, but the employee can deduct the contribution from tax. At retirement, the fund’s benefits are currently fully available in cash once the tax has been paid.

What is a retirement annuity?

This is similar to a provident fund, but is a retirement savings vehicle largely used by self-employed individuals or those without a pension or provident fund option at work, including those with short service until retirement. There is a tax saving, as contributions are subtracted from your gross annual income before tax is calculated.

At retirement, only a third of the capital can be taken as a lump sum. The remaining two-thirds must be used to purchase a compulsory annuity product such as an investment-linked living annuity or life annuity. Fund benefits can only be accessed at retirement (usually after the age of 55).

What is a preservation fund?

If you’re planning to change jobs, this is definitely one to remember. Preservation funds are literally meant to preserve capital. There are two types of preservation funds: a pension preservation fund and a provident preservation fund.

• If you belong to a pension fund: On resignation, you can transfer your funds to a pension preservation fund. No tax is paid when the money is transferred and the fund allows for a single withdrawal of capital prior to retirement (a full withdrawal is allowed if there is no restriction from the pension fund). At retirement, a maximum of one third of your capital can be taken as a cash lump sum, while the remaining two-thirds must be used to purchase an annuity.
• If you belong to a provident fund: On resignation, you can transfer your funds to a provident preservation fund. No tax is paid when your money is transferred, and the fund allows for a single withdrawal of capital sum prior to retirement (a full withdrawal is allowed if there is no restriction from the provident fund). At retirement, the total capital can be taken as a lump sum, or you can use the cash to purchase an annuity.

What is a defined-benefit retirement fund?

This is a traditional pension fund that considers, among other factors, the number of years you have been part of the fund and your salary at retirement, to define the benefits accrued. The advantages are that you don’t take on the investment risk, and you can calculate the exact amount you receive at retirement (that is a percentage of your final salary). The downside is that your pension may not keep pace with inflation because increases in contributions and benefits are at the discretion of the fund’s trustees. There are not many of these funds around today, because most companies have moved over to defined contribution funds over the past few decades.

What is a defined-contribution retirement fund?

Contributions to this fund are paid by the employer and the member but, unlike a defined-benefit retirement fund, the amount of money you receive on retirement is not guaranteed. The member decides where the fund invests their contributions and takes on the full investment risk. If the markets yield good returns, you may have a much higher pension at retirement, but if they do poorly, you could stand to lose.