What is the end goal?
The sad and non-improving statistic is that only 6% of South Africans can afford to retire comfortably with a pension income equal to or greater than their last salary.
The end goal is not only reaching retirement age and retiring but having enough money to provide an adequate income as a pensioner for the rest of your life.
The main reasons for not having adequate retirement provisions are:
- Not starting retirement savings early enough from when you first start working.
- Taking a taxed cash lump sum when you change jobs.
- Not contributing enough.
- Investing in a too-conservative investment portfolio.
Not starting retirement savings from when you first start working:
If you work for 40 years, you will enjoy 480 paydays during your working career. If you are on pension for 20 years thereafter, you will have 240 pension paydays.
So, if you start contributing to a company retirement fund or an individual retirement annuity when you start working, you will have 480 working paydays to fund 240 pensioner paydays.
If you only start contributing to a retirement fund or retirement annuity halfway through your working career, you will only have 240 working paydays to fund 240 pensioner paydays. Therefore, you would have to invest far more each month to achieve a meaningful retirement amount.
From this, you can see that the longer you delay providing for your retirement, the more difficult it gets. You have also lost out on the compounding effects of compound interest over time. Compound interest is often referred to as the eighth wonder of the world.
Taking a taxed cash lump sum when you change jobs:
Many people have been retrenched due to the adverse economic conditions, while others are resigning to take another job or are starting their own businesses.
The decision as to what to do with your retrenchment/resignation benefit is one of the most important decisions of your life, as it has far-reaching implications on your future financial security.
By taking a taxed cash lump sum before retirement and not preserving their benefit, a person could be destroying their retirement provision and future financial security, as this would have to be made up in the reduced time before retirement.
The National Treasury (NT) proposed a “two-pot system” legislation promoting the preservation of retirement funds, due to be introduced on 1 March 2024. This will potentially go a long way to improve retirement outcomes for many people over the long term.
But while fund members still have access to their vested benefits if they resign, this still allows leakage from the retirement fund system.
Not contributing enough:
Other factors affecting your retirement benefit are the amount you contribute each month and the net growth on investments after inflation. A 15% monthly contribution over your entire working career of 40 years, with your investments beating inflation by 5% – 6%, should provide a replacement ratio pension of 75% of your last salary.
There are some funds with low retirement fund contribution rates. This gives members a false sense of security that they have retirement provisions, but they don’t realise this could be inadequate. They don’t make additional contributions within the fund or in a separate policy.
Current legislation allows fund members to contribute up to 27.5% of their salary to a fund and get tax relief on this. This is a powerful and tax-efficient way to boost your retirement savings.
Longevity is also becoming a financial consideration as your pension will have to last longer. This means increasing your contribution to provide for this.
Investing in a too-conservative investment portfolio:
Most people are risk-averse, and where they have individual investment choices within a fund, they often choose a conservative investment portfolio, especially in adverse economic conditions and when markets fall. Your retirement fund investment horizon is long-term, and you need to be invested in investment portfolios that beat inflation over the long term.
Education and Preservation
Member education is becoming more critical so that well-informed decisions can be made during your working career and on exit from a fund. The funds are responsible for communicating directly with fund members, which is a positive development. Fund consultants are also very active in this regard.
It is encouraging to see that the number of people preserving their retirement benefit on exit is increasing as they start to understand the implications and advantages of doing this.
The end goal is simple: don’t run out of money before you run out of life.