10 Ways you can save tax with a retirement annuity

Last updated on 6th February, 2023 at 02:21 pm

Tax is becoming an increasing burden for South Africans, but with a retirement annuity, there are many ways you as an investor can reduce your tax bill. Here’s how.

Reading time: 4 minutes

In this article you’ll learn:

• How to save on tax through a retirement annuity.
• When retirement annuities can be taxed.
• How to save with medical tax rebates and estate duty.

Firstly: what is a retirement annuity?

A retirement annuity (RA) is a one-person pension plan. RAs are the main savings vehicle for self-employed people to accumulate funds for retirement in a tax-efficient way. They are also popular as a top-up plan for salaried employees who belong to pension or provident funds, to close the income gap at retirement.

Many people know that contributions to an RA are tax-deductible up to a certain maximum, but few realise that an RA may actually provide them with an opportunity to save tax in various different ways:

1. Save with your contributions

Contributions are tax-deductible up to a specified maximum (eg if you fall within the 45% maximum marginal tax rate, SARS is sponsoring almost half of your contribution towards retirement).

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2. Let your employer do the work

If you are employed, your employer can pay your contributions on your behalf, tax-deductible up to a certain limit: currently up to 27.5% of the higher of taxable income or remuneration, up to a limit of R350 000 per year.

3. Save in the future, too

Disallowed contributions, or retirement annuity contribution that did not qualify for a deduction in terms of the annual deduction limit, can be carried over to the next year of assessment and, if unused during the contribution period, can either be offset at retirement to increase the tax-free portion of the lump sum payment, or can exempt pension income from tax to the extent of the unused disallowed contributions.

4. Interest is tax-free

No tax on interest income is imposed on retirement funds. This benefits anyone who pays tax and who belongs to a retirement fund. Therefore no tax at all is paid on the build-up, as dividend income and capital appreciation is tax-free, and Capital Gains Tax (CGT) does not apply. This is like having a tax-exempt share portfolio.

5. No tax up to R500 000

Your retirement fund lump sums at death, disability or retirement in total are taxed at 0% up to R500 000. There is also no tax on disallowed contributions.

6. What if your RA balance is above R500 000?

The balance of your RA lump sum benefit is taxed on a sliding scale as follows:

R500 000 to R700 000 @ 18%
Between R700 001 and R1 050 000 @ 27%
Sums in excess of R1 050 000 @ 36%

7. Save with your estate

The entire proceeds of an RA are exempt from estate duty. This provides a planning opportunity for an estate owner to make a large single-premium contribution to an RA to reduce the value of their estate. You can also donate a lump sum to your spouse (donations tax-exempt), thereby saving estate duty of 20%.

8. Transfer your RA tax-free

If you resign from your employer and receive a withdrawal benefit from your pension or provident fund, you can preserve your retirement benefit by transferring it to either a preservation fund or an RA, on a tax-exempt basis.

9. Keep earning!

At retirement, you can choose between two types of annuities: a conventional annuity and an investment-linked living annuity, or a combination of the two. By choosing the investment-linked living annuity you can manage your income and consequently your income tax position, too. Any growth on the assets backing the annuity is not taxed.

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10. Save on medical expenses

Once you have reached age 65, your tax rebate on medical expenses increases. An RA can be used to build up a fund for post-retirement medical expenses in a tax-efficient way. On retirement, although the annuity is fully taxable, when the money is used to cover medical expenses, it is partially tax-free again due to the medical tax rebate.

Book a meeting with a financial planner today to ensure that your retirement plan will give you the retirement years you want. You can earn 8 000 tier points!