RETIREMENT FUND CONTRIBUTIONS

The introduction of the two-pot system brought significant changes to the taxation of retirement funds and, many of us are still attempting to recover from the shock! I refer to it as ‘’sinful tax’. The reason though, is a story for another day.

From data widely available, the number of withdrawals from the savings pot and amounts paid (and still paying) run into the billions, and taxes flowing into the SARS pot are most probably in the trillions. The figures are mind boggling.

While compiling content for my platform, Synergia Learning, I felt I needed to share how we could (possibly) recoup some of the taxes flowing out of our retirement funds, especially for those who are retrenched and end up paying income tax at marginal rates amounts withdrawn.

Indeed, the view is to preserve everything and not withdraw. ‘Our’ perception versus our client's reality.

As most are aware, Section 11F of the Income Tax Act (ITA), provides the method of determining the amount that can be contributed to retirement funds which, in turn, is used to reduce taxable income in a year of assessment.

This is not the maximum amount that can be contributed to retirement funds as there is no such limitation. The maximum amount is reliant on the client’s affordability. S11F merely points at a deduction for tax purposes.

Section 11F was not amended with the implementation of the two-pot retirement system.

Briefly, this section provides for a maximum amount of:

a. R350 000 or

b. 27.5% of the greater of remuneration or taxable income

The lesser of the two amounts above, limited to the actual contributions.

As strange as it may seem, both remuneration and taxable income includes retirement fund lump sum benefits, retirement fund lump sum withdrawal benefits and severance benefits.

But, for the purpose of Section 11F one specifically excludes retirement and withdrawal fund lump sum benefits and severance benefits in the calculation of 27.5% amount.

Illustration is better suited.

THE STORY

ABC Pty (Ltd) has experienced financial difficulties. Not to shut operations, they decide to retrench employees. John Smith (48) is on the list. John has a marginal tax rate of 45%.

Payment to John due to his retrenchment:

Pension Fund interest: R600 000,

Employer retrenchment package (from the employer not the fund) : R350 000

John contributed R 178 000 to the retirement fund which has not been taken into account for deductions.

John had an annual salary of R400 000 and worked for the full 12 months.

CALCULATION BEFORE 1 SEPTEMBER 2024

The calculation is:

Both remuneration and taxable income:

600 000 pension fund

350 000 severance benefit

400 000 salary

Total : R1 350 000

27.5% excludes lump sums (600 000 + 350 000)= 400 000

27.5% of 400 000 = R110 000

Of the R178 000 contributions, John can deduct R110 000.

We fast forward to on or after 1 September 2024

A new definition was included in gross income: 'a savings withdrawal benefit' which are amounts that can be withdrawn from the savings component of a retirement fund. You may withdraw from the savings component of a retirement fund when:

1. You opt to make a yearly withdrawal

2. You resign and the savings component of the retirement funds may be withdrawn

3. You are retrenched and therefore your membership of the retirement fund is

terminated and you may withdraw from the savings component.

As we all know, any amount withdrawn from the savings component will be taxed according to marginal income tax rate of the individual.

S11F was not amended to exclude these amounts, providing a window of opportunity to invest a lump sum into a retirement fund in the same year of assessment.

Let us revert to our story with added information:

Assume that by the time John was retrenched, the amounts payable from the pension fund were:

Vested component R600 000 (assume no growth)

Savings component R220 000 (has not ever withdrawn)

Retirement component R660 000

His employer will pay, as part of the retrenchment package R350 000 – this is not from the pension fund. Assume R400 000 salary and that he worked 12 months of the year for simplicity.

The calculation for 11F looks a little different:

Remuneration: R600 000 + R220 000 + R660 000 +R350 000 +400 000 = R2 230 000

Taxable income: ** R600 000 + R220 000 +350 000 +R400 000 = R1 570 000

Remuneration is higher: R2 230 000

But, for 11F one excludes the following lump sums:

Vested component: retirement lump sum (R600 000)

Retirement component : retirement lump sum (R660 000)

Payment from employer: Severance Benefit (R350 000)

Amount for the purpose of 27.5% is R620 000

Retirement contribution deduction allowed: ( R170 500)

Before 1/09/2024 all these amounts were lump sums but with the introduction of savings withdrawal benefit now forming part of taxable income, one can factor this in to increase contributions to retirement funds to take advantage of the tax break.

Perhaps this is not what the legislature intended but, it is what it is.

In ending - I have seen many posts of people who want to cancel their withdrawal request after they realised the tax that had to be paid – perhaps we need to reach out to these people and get them to plow back into their retirement annuities to make up for the tax they have to pay? It has to be in the same year of assessment.

For those who still believe in retirement funds – here is an opportunity to consider!!

**the retirement component is not gross income when considering taxable income as this amount must be preserved when you are retrenched