Agenda

• Why you need to plan• How much you need• Long-term savings choices• Pension choices• The risks you face• The need for advice

Reasons to plan• What you need, why you need it and how long it

will take• Taking account of the threats: Inflation,

investment market returns/volatility and living too long

• Finding the products that will generate enough capital to provide a sustainable income in retirement

• Taking account of risk you can and cannot take in your asset class and asset management choice

• While minimising taxation• And planning your estate.

Don’t Plan: You become a statistic• Only 26% of retirement fund members will

reach retirement financially secure • To achieve a financially secure retirement you

need to save at least 13 cents of every rand you earn in your life

• Most fund members contribute between five and six cents of every rand they earn

• Average period of contribution: 27 years and six months – instead of 40 to 45 years

• Most people go into retirement with a pension equal to 28% of their last pensionable pay cheque

Planning: A Matter of Options

Retirement funding is deciding what pleasure you will forgo now to have some pleasure in retirement

• Too little saved = Poverty in retirement

• Retire early = less in retirement• Live too long = Depletion of cash• Too much saved = Unnecessary

sacrifices before retirement

How much do you needIt is not a quick calculation:• Capital amount of 10 x annual income is Not

Enough• It will be closer to 15 to 20 x annual income

You need to start at the end, not the beginning

• Your lifestyle in retirement• Your age at retirement• A sustainable income in retirement (NRR)• Capital required to generate a sustainable

income

Your target: Replacement rate

• A net replacement rate (ratio) (NRR) is the percentage of your final salary calculated as retirement income

• The most common NRR ranges are 70 to 80 percent of pensionable pay (excludes allowances) but:

• after 40 years of membership• with a contribution rate (total of member and employee) equal to

approx. 12 percent of pensionable income• with an average investment return of approx. five percent a year

A NRR is not an exact science

Your NRR will be influenced by:•Inflation•Interest rates (particularly in retirement)•Investment markets (particularly before retirement)•How much you save•How long you save•The type of annuity (pension) you buy

Tax-incentivised retirement vehicles

Occupational Retirement Funds (mainly sponsored by employers):

• Defined Benefit Funds• Defined Contribution Pension Funds• Defined Contribution Provident Funds• Umbrella Funds

Individual vehicles:• Retirement Annuity Funds• Preservation Funds (Pension & Provident)

Defined Benefit Occupational funds

Defined benefit funds:• Contributions up to 7.5 percent of pensionable

income a year deductible from taxable income• You know what you will get (Final salary x years

of membership x a factor)• No investment risk for you• Must use two thirds to purchase a pension –

subject to income tax at marginal rate• Lump sum subject to tax with first R315 000 tax

free

Defined Contribution Occupational Funds

Defined contribution pension funds• Contributions up to 7.5 percent of pensionable income a year deductible from

taxable income• Contributions by your employer and yourself defined• No benefit guaranteed - Investment risk all yours• Must use two thirds to purchase a pension – subject to income tax at marginal

rate• Lump sum subject to tax with first R315 000 tax free

Defined contribution provident funds• Contributions not deductible from taxable income• Contributions by your employer and yourself defined• No benefit guaranteed - Investment risk all yours• Can take full lump sum at retirement• Lump sum subject to tax with first R315 000 plus own contributions tax free.

Employer contributions and investment growth subject to tax on lump sum tables

Dangers of Occupational Funds• Mind the Gap: No employer sponsored scheme is

sufficient. Most funds aim to provide 70 - 80% of pensionable income after 40 years of employment.

• Contributions based on pensionable income: Final salary excludes all allowances

• Big gap for dependants/disabled of DC funds: Dangers on death are:

- Life assurance normally 2x or 3x annual pensionable- plus accumulated savings. This means- Too little when you are young with dependants- Too much when you are older with no dependants

Individual Retirement FundsRetirement Annuity Funds:• Contributions up to 15 % of non-pensionable income a

year tax deductible• Must use two thirds to purchase a pension – subject to

income tax at marginal rate• Subject to lump sum tax with first R315 000 tax free

(cumulative from all sources)• You decide when to retire after age 55Preservation Funds:• Amounts transferred from occupational funds• No new contributions• Preserves tax status of previous fund (pension or

preservation)

Individual Retirement Fund Challenges

Underlying Product choices• Life assurance: Normally contractual

with penalties for reducing or stopping payments. Higher cost.

• Linked Investment Product: Greater investment choice. Non-contractual but can be costly.

• Unit trust: Choice limited to the management company. Non-contractual. Costs will depend on management company

At Retirement

Decisions must be made on annuity (pension).

Annuity choices are:

• Fund-provided pension: normally a defined benefit occupational fund

Or• Voluntary purchase annuity (VPA): pension bought

with after-tax money, including discretionary savings and proceeds of a provident fund.

Or• Compulsory purchase annuity (CPA): pension

bought with proceeds of a tax-incentivised occupational pension fund or retirement annuity fund

Compulsory Purchase Annuity Choices

Guaranteed life annuity: a life assurance company guarantees you will be paid a pre-determined pension for life (level, escalating, capital guarantee, joint and survivorship options). Pension depends on gender, age, interest rates, guarantees and product. Dies with you (depending on guarantees).

And/orWith profit annuity: a life assurer guarantees you will be

paid a minimum pension for life but increases will be dependent on investment returns. Dies with you. Only available in Namibia through an occupational fund

And/orInvestment-linked living annuity (ILLA): you take the risk

of ensuring that you will have a sustainable pension for the rest of you life. Must drawdown between 2.5 and 17.5%. Lives after you.

Threats to a financially secure retirement

1. Not planning holistically (with proper advice)2. Starting to save too late3. Not saving enough4. Withdrawing savings before retirement5. Retiring too early6. Inflation7. Costs8. Tax9. Investment choices10. Product choices11. Living too long12. Dying too soon13. Choosing the wrong annuity14. Advice Risk

1. Not planning holistically

Finances are a balancing act which require:

• Taking some risks yourself and sharing others with others.

• Deferring spending (saving)• Taking account of affordability (debt)

Best solution:• A financial needs analysis• With regular check ups, particularly when

circumstances change

2. Starting too late

Current Age Targeted Retirement Age 55 60 65

•20 10% 7% 6%•30 16% 12% 8%•35 22% 15% 11%•40 32% 20% 14%•50 51% 48% 27%•55 103% 44%

Assumptions: Target 75% of final annual salary with a 3% real return Source: Sam Robson, Glenrand MIB

2. Starting to late

• You lose the power of compound interest• Assuming a regular savings pattern every R100

in pension income you receive in retirement, R65 will be from money you saved (with the investment returns) before the age of 45.

3. Saving too little

• Don’t mistake high income with high net wealth

• Save below the required minimums and you will not achieve your target

• Save less at the beginning and you need to save a lot more at the end

4. Withdrawing savings before retirement

Alexander Forbes research shows that after 40 years

of potential fund membership:

• 12% of fund members reach retirement with an NRR of more than 75%;

• 7% of members have an NRR of between 60 and 75%; • 10% of fund members have an NRR between 45 -

60%; • 14% have an NRR between 30 – 45%; and • 57% of retirement fund members have an NRR of less

than 30% of their final pay cheque• Non-preservation reduces potential NRRs of 75% by

between 15 and 24%

Non-preservation

5. Retiring too early

Replacement ratiosRetirement Age NowAge 20 30 40 5060 77.8% 50.4% 29.1% 12.5%61 83.3% 54.4% 31.8% 14.3%62 89.4% 58.7% 34.8% 16.2%63 96.0% 63.5% 38.1% 18.3%64 103.2% 68.6% 41.6% 20.7%65 110.9% 74.1% 45.5% 23.2%

6. InflationInflation and being too conservative:• R1 000 a month X 480 months = R480 000• Average annual return of 8% = R3 221 070• Average annual inflation of 10% = R340 329

SO: The buying power is R340 329

Note: • Inflation of 4.5% will reduce a fixed pension by 25%

every six years• Inflation of 7% will halve a fixed pension every 10

years

6. The effect of inflation

7. Costs• Warning: Percentage points seem low – but the

impact is high• Every one percentage point saved in costs will

improve your end benefit by 20% over 40 years• Rusconi's 2004 research on retirement saving vehicles

showed: - Most cost-effective is a larger occupational retirement fund. - RA with unit trust funds will reduce end benefit by between

22.3 and 32.5% over 40 years. - Life assurance RA will reduce benefit by between 30.8 and

44.7% over 40 years.

Costs just nibble away

8. TaxIncome tax:E = exemptions/deductions applyT = taxed fully or partially• Pension funds and RA funds: Exempt,

exempt, taxed (EET)• Provident funds: Taxed, exempt, taxed –

partially (TET)Capital Gains Tax: Full exemptionDividend withholding tax: Full exemptionNB: The longer held in fund the more you

benefit from tax exemptions – differed tax

8. Income Tax: Incentivised retirement products (Pension & RA funds)

1. (E) Contributions deductible from taxable income: Now:• Occupational funds: 7.5 percent of pensionable income• Retirement annuities: 15 percent of non-pensionable income.From March 1, 2013:• 22.5% for people under the age of 45 with an annual

maximum of R250 000• 27.5% for people aged 45 and older with an annual

maximum of R300 000 2. (E) Investment returns exempt from income tax,

dividend tax and CGT: 3. (T) Pension benefits• Lump sum: First R315 000 tax free; next R315 000 taxed at

18%; next R315 000 taxed at 27% and amounts over R945 000 at 36%

• Pension: Taxed at marginal rate

8. Income Tax: Incentivised retirement products (Provident funds)

1. (T) Paid with after-tax income: 2. (E) Investment returns exempt from

income tax, dividends tax and CGT 3. (T) Pension benefits- Lump sum: Own contributions plus first

R315 000 tax free; next R315 000 taxed at 18%; next R315 000 taxed at 27% and amounts over R945 000 at 36 percent.

8. Tax: Non-incentivised savings products

Life assurance products:Capital Gains Tax: • 7.5% annually in the hands of the insurerDividend withholding tax:• 15% when dividend is paidIncome tax: • 30% in hands of insurer• No exemptions apply (loss of annual

interest and CGT exemptions)

8. Tax: Non-incentivised savings products

Collective Investment Schemes: (Conduit principle applies)

Capital Gains Tax: • 13.3% top effective rate in your hands when

realised• Annual exclusion gain/loss of R30 000Dividend withholding tax:• 15% when dividend is paidIncome tax: • Interest in tax year it accrues• Marginal rate of income tax applies• Annual exemption of under age 65 – R22

800; 65 and older – R33 000

9. Investment choices: (Savings & Dis-saving)

Some facts of life:

• The best tax-free guaranteed return you can get is paying off your debt

• The best interest rate comes from RSA Retail Bonds (available from the Post Office or Pick n Pay or www.rsaretailbonds.gov.za)

• The cheapest equity investment s are in tracker collective investment schemes – unit trust funds and Exchange Traded Funds (and in the long term you may probably do better)

• Diversity of investments is the proven best solution

• Exceptional promises of returns come with inordinately high risks – If it sounds to be too good to be true, it will be too good to be true

9. Investment Choices: Reg 28

Prudential regulation:• Dictates how much you can invest in

asset classes and sub-sectors• Aims at diversity of investmentBut:• Does not force you into a low yielding

portfolio• Applies to tax-incentivised retirement

savings (by law) and investment linked living annuities (by industry agreement)

9.Investment Choices: Danger lurks • Masterbond• FundsTrust• Supreme Holdings• Fedsure• Saambou Bank• Fedbond• Leaderguard (Currency speculation)• Pyramid/ Ponsi (Rainbow, Kobus Milk, Airplane, Tannenbaum)• Publiserv medical scheme• Insider trading• Alexander Forbes (Secret profits)• Life assurance confiscatory penalties• Unregistered money market funds (Ovation: Common Cents, CMM)• Fidentia• Property syndications/fractional ownership (BlueZone/Sharemax)

• Latest: Trilinear, Rockland TDI fund, Herman Pretorius’s Relative Value Arbitrage Fund

9. Investment choices: That Balancing Act

• Inflation versus returns• Greed versus fear• Costs versus returns• Tax versus tax• Risk versus returns• Too conservative versus too

aggressive• Passive (lower cost) versus active

(higher cost)

9. Investment Choices: Beware averages

Assuming constant real after-inflation returns is dangerous for:

• People planning for retirement• For pensioners living off an investment linked

living annuity

It all depends where you are in the cycle:

Example: Fund member 10 years from retirement:• 1998 retiree: NRR of 8x pensionable salary• 2008 retiree: NRR of 14x pensionable salary(Source: Daniel Wessels)

9. Investment Choices: Fate Wins

Volatile markets

9. Investment choices: Your NRR will vary

Retirement Age

Investment Return 60 63 65

CPI + 5% 39% 49% 56%

CPI + 6% 46% 58% 67%

CPI + 7% 54% 69% 82%

Assumptions: Source: Simeka Employee Benefits

1. Join age 352. Contribute 13% of salary

10. Product choices • Guaranteed versus no guarantees• Capital guaranteed index linked (synthetic) versus life

guaranteed product (non-synthetic)• Contractual (life assurance RA) versus non-contractual

(Unit trust RA)• Limited underlying investment choice (single

balanced/flexible portfolio) versus wide investment choice (multiple funds)

• High profile brand (often higher cost) versus low profile brand

Warning: Only invest when you understand all –There is no such thing as silly question

11. Living too long

• Many pension plans based on a 65-year-old dying at 84 but 50% live longer

• One person in a couple aged 65 has a 52% chance of reaching age 90

• A living annuity with a 3% average real annual growth and 5% drawdown has a 25% chance of lasting until age 90

• First person to live to 150 is already 50 years old

12. Dying too soon (pre-retirement)

• Most South Africans will die before age 50 – Your chances of being involved in a motor accident are one in ten

• 80 percent of retirement fund member beneficiaries receive less than 50 percent of what they require

• Most South Africans are under-insured• Insurance is there to ensure that there is sufficient when

life deals you a bad hand.

But it is a continual balancing act…• Too much insurance = you go without• Too little insurance = you and your dependants go without

12. Dying too soon: An example • A child is born• Saving target R150 000 in 18 years• You die after 10 years• You have only saved R60 000• You need to cover the risk

But say you die after 15 years and investment

markets have been good:

• You only need R10 000• You are still insured for R150 000

12. Dying too soon: Health Warnings

• Life assurance is not to make dependants rich – that will make you poor while you live

• Compare premiums• But cheap assurance can be expensive (watch

the premium guarantees)• Be on with the new love before you are off with

the old (apologies to Will Shakespeare)• Remember you have group life assurance• Be cautious of accident and big toe assurance• Always confess to the dickey heart and

weekend sky diving

13. Choosing the right annuity (pension)

A traditional (life assurance) guaranteed annuity:•Once you purchase a guaranteed annuity, you are locked into that annuity for life•The reason: The guarantee is calculated using your average expected life span and the prevailing long-term interest ratesWhat too consider•Age: the older you are the better the yield – taking account of interest rates optimum time from age 70• Interest rates: the higher the rate the sooner to consider locking

in - the lower the rate the later.• Health: The shorter your life expectancy the better an investment

linked living annuity• A split annuity: Do not have to buy a single annuity with all your

retirement capital- one annuity must have a minimum income of R150 000 a year- Max. 4-way split – capital value of each must exceed R25 000

13. Choosing an annuity: Age counts

Male buys a level annuity with R1 million - implied yields are:

Age 55: R93 288 a year - 9.33% implied yieldAge 60: R100 976 a year - 10.1% implied yield Age 70: R125 134 a year - 12.51% implied yield Age 80: R171 770 a year - 17.18% implied yield Age 85: R210 280 a year - 21.03% implied yield

(An implied yield is the annuity (pension) divided by R1m expressed as a percentage)

14. Advice

Nearly everyone needs financial advice – but it can be a double-edged sword:

• No advice and you may not get the balance right and make wrong investment decisions.

• Bad commission-driven advice and you will not get the balance right

14. Advice: Getting it right • Consider dealing with an organisation, such

as a financial advice company or network, rather than a one-person operation. Organisation should have a competent team

• Beware of what are called broker funds, often used to charge extra fees

• Best-qualified advisers have a certified financial planner accreditation from the Financial Planning Institute (www.fpi.co.za)

• Pay for it – preferably a fee for advice – not a commission for product

14. Advice: A good adviser• Provide an annual projection to show if you are on track with

your NRR. If not how much more you need to save and/or whether you must change your projected retirement date.

• Provide an annual death benefit needs analysis that shows the level of death benefits required for your dependants to be provided with sufficient income.

• Provide an annual needs analysis of your requirements for income replacement in case you are unable to work

• Tell you how your financial security in retirement will be affected if you do not preserve your retirement savings if you leave the fund before retirement.

• Tell you, long before your date of retirement, what pension you can expect based on actual quotations from the market (showing pensions under different options).

• Tell you if your investment options are inappropriate. For example, you may have chosen a cash portfolio while you are relatively young or have switched to a high-risk investment in the hope of earning better returns, particularly when you are close to retirement or in retirement.

Q & A