The decision to cash out your retirement benefits when changing jobs is arguably the biggest contributor to many pensioners’ dire financial position.
Millennials – the generation born between 1981 and 1996 – are most at risk since they tend to change jobs more often than previous generations and will need to overcome the urge to cash out their retirement benefits more frequently.
It becomes increasingly difficult to catch up
Seems that at age 30 or 40 there is still a long way to go to retirement. We all say that we will catch up along the way, but it becomes increasingly difficult to do so.
If you start planning and saving for retirement at age 20, you would need to save 12.5% of your salary. If you only start at age 30 (because you cashed out), you would need to save 22.5%. At age 40, you would need to save 42% of your salary to be in the same position at retirement. At age 50 you7 would have to save your entire salary each month.
Tax implications of cashing out your retirement benefits are significant
People are encouraged to save for retirement. Significant tax breaks are allowed for contributions to retirement vehicles. Individuals can claim a tax deduction of up to 27.5% of their total taxable income each year, with a cap. All retirement assets are allowed to grow tax-free while inside a retirement vehicle (pension fund, provident fund or retirement annuity).
But if you cash out prior to retirement when changing jobs, the taxes are punitive.
Only R25 000 of the retirement funds can be taken tax-free when changing jobs. The rest will be taxed according to a sliding scale
Retirement annuity and pension fund investors can take up to a third of their benefits as a cash lump sum at retirement. Provident fund members can (currently) take all their funds in cash at retirement. The first R500 000 will be tax-free.
Leave your pension benefits in your former employer’s fund
Funds offer in-fund preservation options for employees when they resign. The alternative is to transfer retirement benefits to a preservation fund or retirement annuity.
In the case of a preservation fund, investors would be allowed to access the funds once before the age of 55. With a retirement annuity, funds can’t be accessed before this age.
Investors need to consider if they will be tempted to spend funds that are accessible to them. If so, it would probably be best to transfer the funds to a retirement annuity.