More detail on the major South African retirement savings vehicles: pension/provident funds, preservation funds and retirement annuities.

In South Africa, there are various retirement investment vehicles on offer to help you save for your retirement. As an investor, you could make use of pension/provident funds, preservation fund or retirement annuities, or a mix of all three. All of these retirement saving vehicles have different features and benefits, so it’s important to understand the differences between them. This article will explore the characteristics of these three retirement savings vehicles in more detail so you can make the right decisions to meet your retirement goals. 

Understanding pension/provident funds, preservation funds  and retirement annuities  

In this section, we discuss pension and provident funds, preservation funds and retirement annuities, highlighting the key characteristics of each.  

Pension/Provident funds 

Pension/Provident Funds are offered via your employer. Usually, both employee and employer will contribute to the fund, allowing for the fund to grow quicker. If you resign or leave your employer, you are able to transfer the funds to another provident fund, or a preservation fund, which will allow the capital to compound and grow over time.   

From March 2021, the rules were changed and streamlined so that similar rules will apply for both pension and provident funds at retirement. At retirement, you are able to withdraw a cash portion (up to one-third), while the remainder must be transferred to an annuity in order to provide you with an income through retirement.   

Following recent two-pot legislation, when you leave your employer you are also able to withdraw the savings component while the retirement pot remains untouched in order to provide for retirement. Alternatively, depending on the fund’s rules, you may instead leave the retirement pot invested with the original fund - you will then be treated as a “paid up” member of the fund. If there is a vested component, this may be withdrawn after leaving the employer or transferred to a preservation fund instead.  

Preservation funds 

A preservation fund is a retirement savings investment vehicle that you would make use of when moving between employers. Your pension or provident savings lump sum would be transferred to your preservation fund. This allows you to “preserve” and grow your funds. You are unable to add any further contributions to preservation funds.   

How withdrawals are structured has changed with the introduction of the Two Pot Retirement System, which was introduced in September of 2024. This effectively divides contributions into a “savings” pot and a “retirement” pot. All contributions that were made prior to September 2024 are maintained in a “vested pot”, and the old rules in place prior to September 2024 will apply to this vested component.   

These rules allow for one withdrawal prior to retirement. As preservation funds do not receive contributions, the Two Pot System has less of an impact compared to the other fund types. The retirement pot can’t be accessed until age 55, which is the retirement age in South Africa currently. The savings pot allows for withdrawals in times of emergency, but this is subject to certain conditions.   

Withdrawals are taxed according to the following tax tables, with the first R27 500 being tax-free: 

• For withdrawals between R27,501 and R726,000, a tax rate of 18% of taxable income above R27,500  
• For withdrawals between R726,001 and R1,089,000, tax of R125,730 plus 27% of taxable income above R726,000 
• For withdrawals exceeding R1,089,000, a charge of R223,740 in tax plus 36% of your taxable income above R1,089,000 

Whereas at retirement, the first R550 000 is tax-free; thereafter, the following tax tables apply:  

• For withdrawals between R550,001 and R770,000, the tax is 18% of your taxable income above R550,000.  
• For withdrawals between R770,001 and R1,155,000, tax is R39,600 plus 27% of your taxable income above R770,000. For 
• For withdrawals exceeding R1,155,000 you will pay R143,550 + 36% of taxable income above R1,155,000 in tax.  

Retirement annuities 

Retirement annuities are retirement savings vehicles that an individual or self-employed person may invest in. They allow for regular contributions as well as lump-sum contributions. This is a tax-efficient way to save for your retirement: The contributions that you make to an RA are tax-deductible and can, therefore, reduce the amount of tax you pay and even possibly move you into a lower tax bracket.   

The income that you earn on your funds is also tax-free. You can make withdrawals from the savings pot before age 55, but this is subject to certain conditions. At retirement, age 55 the entire portion of your “retirement pot” must be used to purchase a living or a guaranteed annuity. You can withdraw from your savings pot or use it as part of your annuity purchase. If you have a “vested” component, you are able to withdraw one-third, and two-thirds must be transferred to an annuity. This annuity (or a combination of living and guaranteed annuities) will provide you with an income during retirement.  

Key differences between preservation funds and retirement annuities 

Let’s have a closer look at some of the main differences between Preservation funds and Retirement Annuities. We’ll cover contributions, access, taxation, and flexibility.   

Contributions:  

Preservation Funds: You are not permitted to make any further contributions.  

Retirement Annuities: You are able to contribute regularly, as you choose.  

Access: 

Preservation Funds: You are able to make one withdrawal from the vested pot prior to retirement. You can access the savings pot annually in case of emergencies. 

Retirement Annuities: You can access the savings pot once per year. This should be only for emergencies. No access is allowed to the retirement pot or vested pot prior to retirement. 

Tax Treatment: 

Preservation funds and retirement annuities both offer tax savings in the accumulation phase by reducing your annual taxable income. 

Withdrawal taxation: 

Preservation Funds: Lump-sum withdrawals are taxed according to retirement lump-sum tax tables. 

Retirement Annuities: Lump-sum portion at retirement is taxed according to retirement lump-sum tax tables. 

Flexibility: 

Preservation Funds: Withdrawals are allowed from the savings pot once per year. You can transfer to a different service provider once per year. 

Retirement Annuities: Withdrawals are allowed from the savings pot once per year. They allow for flexibility in terms of contribution amounts, choice of underlying funds and choice of provider.  

More on the Two-Pot Retirement System and its impact  

In September 2024, the Two Pot Retirement System was introduced by the National Treasury. It was implemented as a way to encourage South Africans to save more for retirement but also to still have access to some funds in emergencies. Contributions to retirement vehicles are split one-third to the “savings pot” and two-thirds to the “retirement pot”. The savings pot can be accessed once per year for a minimum withdrawal amount of R2000. These withdrawals will be taxed at your marginal tax rate. The retirement pot is to remain untouched until retirement (minimum age of 55). There is also a third component, which is the vested pot, and this refers to all funds that were invested prior to September 2024.   

The rules that were in place prior to September 2024 apply to the vested pot. Retirement annuities are affected more by these new rules, as opposed to preservation funds. This is because retirement annuities receive contributions that will now be split one-third and two-thirds between the two pots. On the other hand, you are unable to contribute to preservation funds. The savings component of the preservation fund will instead grow at the same rate as the total fund. If the total fund grows by three times the size, both the savings pot and the vested pot will also grow by three times the size.  

How fees impact retirement annuities, pension/provident funds and preservation funds 

There can be a variety of fees you might see charged on your retirement products. These could be management fees, administration fees and advisor fees (and even some discretionary or performance fees).   

• Management fees: These are the fees charged for the management of the fund by a fund manager. 

• Administration fees: These are the fees associated with the administration of the fund - for example, reporting tasks related to the fund.  
• Advisor fees: These are the fees charged by an advisor for advice given related to an investor’s finances. There could be both an initial and an ongoing fee charged. 

High fees can have a negative impact on your capital, especially over the long term. Fees of 3% might not seem like a lot, but when these are compounded over the years, this can have a substantial effect on your retirement savings. This is even more crucial for preservation funds where you are not contributing but rather relying on good investment returns, which shouldn’t be eroded by high fees.   

You have less control of the fees you are being charged on your pension or provident fund, as you will be part of an employer or company fund, but it is still a good idea to be aware of the charges. 10X charges low fees of typically less than 1%, which allows more of your returns to be invested and your retirement savings to compound and grow.  

Effective Annual Cost (EAC) was introduced in 2015 by ASISA. The EAC provides you with a comprehensive list of all the fees and costs associated with an investment. You can then use this information to compare your particular investment’s fees and costs against other products. You want to ensure that the total EAC you are paying is as low as possible, as a higher EAC will deplete your returns and your total retirement savings over time. Here is a useful link to the EAC calculator.  

Inflation and its effect on retirement savings 

Inflation is inevitable, and reduces the purchasing power of your money. This can have a substantial effect on your retirement capital. You need to factor in an inflation rate of around 6% in South Africa. There are some strategies that you can incorporate that can help combat the effects of inflation. Let’s have a look at these:  

• You can ensure that you use a diversified portfolio in your retirement savings vehicles, including exposure to equities. Equities usually give the best chance of outperforming inflation over the long term.  
• By regularly reviewing and evaluating the underlying portfolios in your retirement investments, you can ensure that you are beating inflation by a healthy margin, as well as balancing your retirement needs and goals as an investor. 

Portfolio choices can be daunting to navigate, so if you require help with this, get in touch with the expert investment consultants at 10X who have helped many South Africans get the facts of their retirements over the years.  

Offshore investments within retirement vehicles 

There can be benefits to investing a portion of your retirement annuity or preservation fund offshore. This allows for your investment to be exposed to global markets and currencies while mitigating the effects of any local market instability or Rand depreciation. This aims to increase your potential returns, thereby allowing your capital to grow. Regulation 28 of the Pension Funds Act states that a maximum of 45% of your retirement savings investment may be invested offshore. This is to help ensure that investors diversify their investment portfolios safely. 

Fund Performance vs. Net Investment Returns 

The Fund Performance metric refers to the total returns of your investment portfolio before any costs or fees have been deducted. Net Investment Returns are the returns that you receive once all fees and costs have been deducted. 

Save for retirement with 10x 

As we have seen, there are some significant differences between the various retirement products: retirement annuities, pension/provident funds and preservation funds. Retirement annuities are flexible and useful for the self-employed person or a person without a company pension/provident fund, while preservation funds are a type of retirement savings vehicle that can be used to allow your retirement funds to continue growing when changing jobs. It’s key to understand the importance of fees, inflation, portfolio management and investing offshore.   

Speak to the experienced investment consultants at 10X, who are more than happy to discuss your options and so that you can make decisions that meet your individual long-term retirement savings goals. For more information, reach out today.