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During these challenging economic times, there is an increased number of individuals choosing to retire and companies electing to offer voluntary or involuntary retrenchment packages to their employees. This raises questions around the latest retirement and retrenchment rules and the tax consequences of retirement and severance payments.
We provide a summary below of the latest retirement and retrenchment rules, the tax consequences of retirement and severance payments, and the important decisions that need to be made to ensure that your retirement funds are transferred and structured as tax efficiently as possible.
Retrenchment (voluntary or involuntary)
Retrenchment is a form of dismissal due to no fault of the employee. It is a process whereby the employer reviews its business needs to increase profits or limit losses, which leads to reducing its number of employees.
Please see the table below, which details the types of payments one would receive and how they are taxed:
| Severance Pay | Unpaid Annual Leave | Retirement Fund Lump Sum (optional) | |
|---|---|---|---|
| When will it be paid? | Severance pay is paid with an employee’s final salary. | Unpaid annual leave is paid with an employee’s final salary. | Retirement fund lump sum withdrawals will be paid after a tax directive has been issued with SARS. |
| How is it calculated? | Severance pay is often calculated as 1-2 weeks’ pay per year of service to the company. | Annual leave that has not been taken by the employee at the date of retrenchment. | A retirement fund lump sum withdrawal is optional and any lump sum withdrawn is taxable. |
| How will it be taxed? | Severance pay is taxed as per the Lump Sum Retirement Benefits tax table. This amount forms part of an individual’s lifetime tax-free portion of R500,000. | Unpaid annual leave is paid and taxed as per normal employee’s tax (pay as you earn). | Any retirement fund lump sum withdrawal that is made on retrenchment will be aggregated with the severance pay and taxed as per the Lump Sum Retirement Benefits tax table. |
Early or Normal Retirement (if over the age of 55)
An individual can elect to retire from their employer, subject to rules of employment, or personal retirement funds such as a Retirement Annuity, Pension Preservation Fund or Provident Preservation Fund, at any time after the age of 55.
In the case of an employer Provident Fund or Provident Preservation Fund, the individual can withdraw up to 100% of their fund as a lump sum and the remaining portion must be transferred to a compulsory annuity such as a Living Annuity or Guaranteed Life Annuity, to provide an income.
In the case of an employer Pension Fund, Pension Preservation Fund or Retirement Annuity, the individual can withdraw up to 1/3rd of their fund as a lump sum and the remaining portion must be transferred to a compulsory annuity such as a Living Annuity or Guaranteed Life Annuity, to provide an income.
How much can I withdraw from my retirement fund?
It is important to establish the amounts that can be withdrawn from your retirement fund. This amount depends on your age, the type of retirement fund you hold and the transaction that is taking place.
| Action taken | Type of Fund | Lump Sum Withdrawal % | Rates of Tax |
| Resignation | Pension Fund
Provident Fund |
Upon resignation, an employee can elect to withdraw between 0% and 100% of their retirement fund as a taxable lump sum | Up to 36% |
| Retrenchment | Pension Fund
Provident Fund |
Upon retrenchment, an employee can elect to withdraw between 0% and 100% of their retirement fund as a taxable lump sum | Up to 36% |
| Normal or Early Retirement
(if over the age of 55) |
Pension Fund
Pension Preservation Retirement Annuity |
Upon retirement, an employee or individual can elect to withdraw between 0% and 33.3% of their retirement fund as a taxable lump sum | Up to 36% |
| Normal or Early Retirement
(if over the age of 55) |
Provident Fund
Provident Preservation |
Upon retirement, an employee or individual can elect to withdraw between 0% and 100% of their provident fund as a taxable lump sum | Up to 36% |
| Pre-retirement Withdrawals
(before the age of 55) |
Retirement Annuity | No pre-retirement withdrawals can be made from a retirement annuity unless a retirement annuity is below the value of R7,000 or an individual is disabled or emigrating from South Africa | N/A |
| Pre-retirement Withdrawals
(before the age of 55) |
Pension Preservation
Provident Preservation |
One pre-retirement withdrawal is allowed from a preservation fund, unless not permitted by the transferring pension or provident fund. | Up to 36% |
How will my retirement fund lump sum withdrawal/s be taxed?
Pre-retirement withdrawals and resignation withdrawals will be taxed as per the Withdrawal Benefit table:
Withdrawal Benefit
2021 tax year (1 March 2020- 28 February 2021) – No changes from last year
| Taxable Income (R) | Rate of tax (R) |
|---|---|
| 1 – 25 000 | 0% |
| 25 001 – 660 000 | 18% of taxable income above 25 000 |
| 660 001 – 990 000 | 114 300 +27% of taxable income above 660 000 |
| 990 001 and above | 203 400 + 36% of taxable income above 990 000 |
SOURCE: SARS
Retirement withdrawals, Retrenchment withdrawals and Severance benefits will be taxed as per the Retirement, Death and Severance benefits tax table:
Retirement & Death Benefits or Severance Benefits
2021 tax year (1 March 2020 – 28 February 2021) – No changes from last year
| Taxable Income (R) | Rate of tax (R) |
|---|---|
| 1 – 500 000 | 0% of taxable income |
| 500 001 – 700 000 | 18 % of taxable income above 500 000 |
| 700 001 – 1 050 000 | 36 000 + 27% of taxable income above 700 000 |
| 1 050 001 and above | 130 500 + 36 % of taxable income above 1 050 000 |
SOURCE: SARS
Please note that tax is paid based on the lifetime withdrawals of an individual and not on each individual withdrawal or transaction.
What portion of my retirement fund lump sum withdrawals and severance benefits will be tax-free during my lifetime?
Each individual can take R500,000 as a tax-free lump sum withdrawal from their retirement funds during their lifetime. It is important to note that this R500,000 tax-free amount is not per transaction or type of transaction as this amount includes all resignation, retirement and severance payments that an individual has received during their lifetime.
An individual cannot receive a R500,000 tax-free retirement lump sum and a R500,000 tax-free severance payment. This will be considered a retirement lump sum of R1million and taxed accordingly.
How should I structure my investments and income after I am retrenched or retire?
It is important to assess your overall retirement plan when deciding how to transfer or withdraw your retirement funds upon a change of job, retrenchment or retirement.
A rule of thumb is that you should preserve any retirement funds that you do not need in the short-term to keep growing your retirement savings until you will require an income one day.
Transferring your retirement savings to a Preservation Fund is free of tax and this can occur on resignation, retrenchment and now (since 2019) retirement. This means that employees can elect to preserve their retirement funds until a later stage if they retire from their company and are not ready to draw a regular income from their pension or provident fund.
Investonline can help you
Our team of Client Portfolio Managers can help you with the difficult decisions that go with planning for retirement. Each individual’s retirement plan is unique and therefore there are many factors that need to be considered:
- Should you preserve your retirement funds or draw a portion as a lump sum?
- How should you structure your income to be tax efficient?
- What investment vehicles are right for you?
- What is the best investment strategy to follow?
Please click here to contact us or send us an email at info@investonline.co.za and a Client Portfolio Manager will contact you shortly.