3 Stages of retirement planning

All these things are possible if you can overcome the fear, created by some, that most people cannot afford to retire – and retirement statistics range between 3% and 6%. Coupled with the sandwich generation syndrome facing many of us, approaching retirement can be a daunting prospect and a huge emotional barrier to overcome.

The sandwich generation is a generation of people typically within their last 10 years to retirement. These people are responsible for supporting their own children while also caring for their ageing parents. According to some research, close to 50% of all adults are confronted with this phenomenon. The fact that people are living longer and the fact that children are still dependent long after they have completed their schooling are perhaps the main reasons advanced.

To make things worse, saving for post-retirement medical expenditure is fast becoming a reality for many people. This does not bode well for many, especially when tax relief for medical expenditure is under threat.

The facts are on the table and will not change – at least not for a very long time. So what must we do if we find ourselves in scenarios such as those described above close to retirement?

The answer is simple, but how to go about it – how to implement a sound strategy – is what eludes so many of us. The real problem is not the curveballs that are thrown at us, but how we perceive the issue and how we deal with these life obstacles.

Firstly, take charge and be accountable for your actions. After all, your retirement date is really just one day in your life. Although pension fund rules may dictate that you have reached retirement and are entitled to a pension, the choice remains with you whether you wish to subject yourself to this one life event. Retirement doesn’t mean to retire from life but could mean to rewire for new challenges.

Some things are beyond your control, but choosing the date of your financial independence, historically known as “retirement” and coupled with the most effective way to save for this date, is of crucial importance to most people. People will have no choice but to work longer, which will give them more time to save and less time to deplete their savings. There is a definite trend worldwide that retirement is increasingly a gradual process rather than a finite event. Even where people have retired in the traditional manner, many who are still healthy return to the working force and make a meaningful contribution to the economy.

There are three stages during which many people will have to make crucial choices, and the irony is that you usually only have one chance to get it right. Since most people are inexperienced in making these choices since in all likelihood they will be doing it for the first time, they cannot afford to make a mistake. This is where a competent financial planner, having the best interests of their clients at heart, can play a valuable role.

What are these three stages?

• The first relates to the building up of funds.
• The second stage is the date on which you feel confident that you are financially independent.
• The final stage is where you are drawing down on your capital.

Stage 1

If you have not accumulated sufficient funds, you will be compelled to work longer, to have a second career, or perhaps to turn a hobby into an income-earning business venture. Thanks to recent tax changes, taxpayers can claim very generous tax deductions for contributions made to a retirement fund. Nothing prevents a taxpayer who contributes to his pension fund from making additional contributions to another retirement fund that will qualify as tax relief. Generally stated, taxpayers may claim up to 27,5% of their earnings on their retirement fund(s), and receive the full amount as a tax deduction, whether in the current year or the following years of assessment. Taxpayers may even include any capital gains that they make in a year of assessment as part of the 27,5% tax deduction.

Stage 2

Since the purpose of the retirement fund is to accumulate capital for that date of financial independence, it is immaterial whether tax rates will increase in future years. South Africa has a considerable budget deficit and taxpayers may be called upon to make up the deficit. This is the real threat. In many respects, a retirement annuity can be regarded as a “tax neutraliser”, since any marginal rate increase will afford the same tax relief if you contribute to a retirement fund. For example, where the marginal tax rate is 45%, the taxpayer will receive a corresponding tax relief of 45%. Even where the rate may increase in future years, the same percentage will qualify for tax relief if one contributes to a retirement fund. One can therefore stay on course to the date of financial independence and not jeopardise one’s retirement goal because of future tax increases.

The actual date of financial independence is a pivotal moment since choices made can seldom be reversed, especially when it comes to taxes. It is at this stage where a person must decide on the maximum lump sum needed, perhaps to settle outstanding debt. However, the generous tax relief received comes at a price and tax will be paid on all lump sums that exceed R500 000.

Stage 3

The final stage of retirement decision making is where the balance of the funds must be invested in a compulsory annuity, whether a guaranteed life annuity or a living annuity. The latter requires more ongoing financial advice on drawdowns and should be carefully monitored, preferably in consultation with a competent financial planner.

The journey to and after financial independence is an important one for all of us and should be travelled with a trusted companion that can assist with financial advice so that the retiree can make smart choices and avoid unnecessary pitfalls.