By Gary Fisher, Head: Member Education Services at Alexander Forbes
We live in uncertain times, and with people struggling to make ends and the rising cost of living, many South Africans are seeking additional ways of injecting income into their monthly cash flow. However, changing jobs or being retrenched should never be viewed as an opportunity to access extra money in the form of your retirement savings.
According to the Alexander Forbes Member Watch Survey 2018, the average retirement fund member would only get R2 880 as a pension for every R10 000 they were earning before retirement – mainly because they withdraw their retirement fund savings instead of preserving them when they change jobs. Our research shows that key reasons why members don’t preserve their retirement fund savings when they change jobs are over-indebtedness created by a lack of savings; unforeseen emergencies, or for goals and plans (like holiday expenses or education costs). Debt is the enemy of savings.
With this in mind let’s look at some of the reasons why you should not cash in your retirement fund money:
- Losing out on the power of compound interest
Your retirement fund is deemed to be a long-term investment and money invested in your company pension or provident fund needs time to grow into a sizeable lump sum. Put simply, compound interest or compounding happens when you earn a return on your investment, and the return you received starts to generate its own return. Over time this growth happens exponentially which ultimately translates into wealth. One of the world’s foremost investors, Warren Buffett, ascribes most of his success to the power of compound interest.
- Incurring an unnecessary tax liability
Preserving or ensuring that your retirement benefit continues to grow when you withdraw from your employer’s retirement fund is an important principle to follow in that you will not pay any tax over to the South African Revenue Service when exercising this option. However, should you decide to withdraw your benefit in cash you will need to pay tax.
During your lifetime you can take a total of R500 000 from your combined retirement savings tax-free on retirement. However, all amounts you withdraw in cash (exceeding R25 000) before retirement will reduce this amount. So, effectively by taking cash each time you change jobs, you end up paying more tax and reducing your tax-free amount available to you at retirement when you need it most.
- Shortfalls in retirement
Many South Africans only start paying attention to their retirement savings later in life and unfortunately to their dismay they discover their projected earnings that they will receive in retirement are usually very low when measured against their current earnings projected forward, as well as their personal expectations of what they think that they should be earning once they retire. This is all the more reason not to cash in one’s retirement fund money, particularly in the earlier years of employment as it disqualifies you from harnessing the power of compound interest and results in shortfalls at retirement which become difficult to make up as our expenses increase in line with our lifestyles and medical bills later in life.
- Starting all over again
Each time we cash in retirement benefits, we effectively re-set our retirement compounding clock to zero and we start again from the very beginning. In the process, we rob ourselves of the one ingredient that could make the difference between a comfortable retirement and one that is fraught with financial uncertainty – time.
Give your retirement savings the gift of time so that they can harness the power of compounding which will translate into a more comfortable retirement.