INVESTMENTS WHEN YOU RETIRE

It’s very important to understand that all the capital invested before retirement in a pension fund, provident fund, or retirement annuity must, at retirement, be used to buy a post-retirement income (let’s call this a “pension”).

The law allows you to withdraw a certain percentage of your retirement fund tax-free when you retire. The rest must be used to buy an annuity, a financial product offered by insurance companies and financial institutions that provides you with an income after retirement.

There are two main types of annuities to choose from:

1. A living annuity

2. A life (or guaranteed) annuity

Let’s break each down:

LIVING ANNUITY - FLEXIBILITY AND CONTROL

A living annuity is an investment managed by a financial institution (either actively or passively managed) and provides retirees with greater control over their investments and income. You choose how your funds are invested and how much income you draw each year (within regulatory limits). It also allows you to leave any remaining capital to your beneficiaries.

Benefits:

• Income flexibility – adjust your income annually based on your needs.

• Investment choice – select and switch between underlying funds as needed.

• Legacy planning – remaining capital is passed on to beneficiaries after death.

• Potential for capital growth through market exposure.

Limitations:

• Income is not guaranteed for life – you run the risk of outliving your savings.

• Income is affected by market performance and inflation.

• May require active management and ongoing financial advice.

• There is a risk of capital erosion if drawdowns are too high or the underlying investments underperform.

A living annuity generally suits those who are financially savvy, willing to accept market risk, and value the ability to leave a financial legacy. The less you withdraw, the less income you’ll have to live on, but the longer your capital will last.

How much is a 'safe' withdrawal? That’s covered in the post on 'How much do I need to retire'.

LIFE ANNUITY: A GUARANTEED INCOME FOR LIFE

In the case of a life annuity, your retirement savings are used to buy a guaranteed monthly income from a life insurance company. It offers the security of a guaranteed monthly income for the rest of your life. It’s a ‘set-and-forget’ solution, where the insurer takes on the longevity risk, meaning you cannot outlive your income. This makes it an attractive choice for those who value certainty and financial stability.

Benefits:

• Guaranteed income for life, unaffected by market fluctuations.

• Protection against inflation if an income escalation option is selected.

• Backed by long-term bonds, offering attractive rates in the current high-yield environment. 

• Additional features such as joint-life coverage (continuing income to a spouse) and guaranteed payment periods.

Limitations:

• No flexibility – once the annuity is set up, it cannot be changed.

• No capital payout at death (however, if a guaranteed term or second life is selected, income can continue to flow to loved ones, and a lump sum is available if optional life cover is chosen)

• Only offers inflation protection if an annual income escalation was selected at inception. If not, your purchasing power may decline over time.

With South African bond yields are currently at historically high levels, a life annuity can offer particularly attractive income rates today.

At retirement, the monthly payout is agreed upon upfront and is based on factors such as:

• Interest rates at the time.

• The size of your retirement fund.

• Your age and health.

A combination approach: Best of both worlds

Blending a life annuity with a living annuity offers a powerful solution that balances certainty and flexibility.

This ensures:

• Stable, guaranteed income from the life annuity component.

• Adjustable income and potential capital growth from the living annuity component. 

• Protection against longevity risk, as the guaranteed income continues for life. Legacy opportunities, with any remaining funds in the living annuity passing to your beneficiaries. 

• Options to protect loved ones through joint-life coverage or guaranteed income payment terms.

Also note:

• A living annuity can later be converted into a guaranteed annuity, but not the other way around.

• Any growth within your pre-retirement pension or provident fund or retirement annuity is completely tax-free.

• Similarly, growth within your post-retirement annuities (living or guaranteed) is also not taxed.

• However, any income you receive from your post-retirement annuity is taxable, according to standard income tax tables.