Understanding South Africa's Two-Pot Retirement System

Starting on 1 September 2024, South Africa will introduce the two-pot retirement system, a transformative reform aimed at enhancing financial security for retirees while offering access to retirement savings during times of financial strain before retirement. This system is a significant development in retirement planning, balancing the need for financial flexibility with the goal of long-term security.

The Structure of the Two-Pot Retirement System

The two-pot system divides retirement contributions into two distinct categories:

1. Savings Pot (One-third of Contributions): Designed for pre-retirement liquidity, the savings pot allows for withdrawals once a year, providing funds in case of emergencies or other financial needs. However, frequent withdrawals could diminish future retirement savings, so financial advisors recommend using this pot carefully and with discretion.

2. Retirement Pot (Two-thirds of Contributions): The retirement pot remains preserved until the individual reaches retirement age. At that point, the accumulated funds will generally be used to purchase an annuity, ensuring a steady income throughout retirement.

This structure provides a balance between short-term financial relief and long-term savings preservation. The retirement pot's preservation protects retirees from the risk of financial shortfalls in their later years, while the savings pot offers a lifeline for unforeseen financial pressures.

Transitioning to the Two-Pot System

The shift to the two-pot retirement system involves careful transition management to ensure a smooth adaptation to the new rules:

1. Vested Rights: Savings accumulated before September 2024 will not be subject to the two-pot system, meaning they will remain under the old rules. These vested savings can be accessed according to existing retirement fund regulations, ensuring that past contributions remain unaffected by the new system.

2. Post-Implementation Contributions: From September 2024, all new contributions will be divided between the savings pot and the retirement pot. Individuals who are close to retirement, particularly those aged 55 and older, have the option to continue under the old system, without transitioning to the two-pot structure.

3. Seed Capital: To ease the transition, a small portion of vested savings— 10% of the vested component, capped at R30,000 —will be allocated to the savings pot. This seed capital helps individuals adjust to the new system by providing an initial sum of accessible savings.

Key Features of the Two-Pot System

As individuals plan for retirement under the two-pot system, it’s important to consider the following key features:

1. Tax Implications: Withdrawals from the savings pot are taxed at your marginal tax rate. Depending on the size of the withdrawal, this could push you into a higher tax bracket, potentially reducing the amount of money received. It is essential to factor in the tax burden when deciding to withdraw from the savings pot.

2. Compounding Effects: Withdrawing funds from the savings pot reduces the amount of money benefiting from compounding returns. This can significantly impact the long-term growth of the retirement pot, making it crucial to assess whether short-term withdrawals are worth the potential reduction in future savings.

3. Limited Withdrawals: The system limits withdrawals from the savings pot to one per tax year, encouraging careful planning and financial discipline. This limitation ensures that withdrawals are made only when absolutely necessary.

4. No Penalties for Retention: If funds in the savings pot are not withdrawn, they continue to grow and will be fully accessible upon retirement. This incentivizes individuals to leave their savings untouched, maximizing long-term growth.

5. Exclusions: Certain individuals, including those who were 55 or older on 1 March 2021 and part of a provident fund, will be excluded from the two-pot system. However, they can opt in if they choose.

Balancing Flexibility and Long-Term Security

The two-pot system aims to balance the need for financial flexibility with the preservation of retirement savings. While the savings pot provides access to funds during working years, it’s important to approach withdrawals cautiously. Early access to savings may alleviate immediate financial challenges, but it could also undermine long-term retirement security.

Financial advisors recommend building an emergency fund outside of retirement savings to avoid depleting the savings pot unless absolutely necessary. This helps ensure that the retirement pot remains largely untouched, preserving as much capital as possible for retirement.

Maintaining a disciplined approach to withdrawals is key to achieving financial security in retirement. Accessing the savings pot too frequently can erode the financial cushion available during retirement, defeating the system’s primary purpose of ensuring long-term stability.

Retirement Planning in the Two-Pot System

For those contributing to retirement funds, the introduction of the two-pot system will require a strategic approach to savings and withdrawals. With two-thirds of contributions preserved for retirement, individuals must focus on building sufficient savings to support a sustainable income in retirement.

Retirement planning under the two-pot system involves:

• Setting clear retirement goals, such as determining the desired income in retirement.

• Selecting appropriate investment vehicles to maximize returns on retirement savings.

• Practicing financial restraint when accessing the savings pot to preserve capital for the retirement pot.

Conclusion

South Africa’s two-pot retirement system is a well-designed reform aimed at addressing both the short-term financial pressures of working individuals and the long-term need for retirement security. By offering limited access to funds before retirement while preserving the majority of contributions for post-retirement income, the system provides a balanced solution to the challenges of retirement planning.

To maximize the benefits of the two-pot system, individuals must approach it with a strategic mindset. Early withdrawals from the savings pot should be made cautiously, and retirement savings should be prioritized. By practicing financial discipline and engaging in thoughtful investment planning, individuals can secure a comfortable and sustainable retirement.

Ultimately, the success of the two-pot system will depend on individual choices regarding savings, investment, and withdrawal strategies. For those transitioning to the two-pot system, consulting a financial advisor and regularly reviewing financial goals will be essential to achieving long-term retirement security.

FAQs

• Which tax tables will apply to the Savings Pot withdrawal?

  Your marginal tax rate is determined by SARS and your income - the higher your income, the higher your marginal tax rate.

• How does the seeding - the amount that will be transferred to the Savings Pot - work?

  The legislation indicates that from 1 September 2024, a maximum of 10%, capped at R30 000, of the member’s existing savings will be used to seed the accessible savings pot. This allocation to the savings pot will be automatic. However, you do not need to access this money immediately. If you do not access the funds immediately, they will continue to be invested in your savings pot and earn an investment return.

• Will the Two-Pot Retirement system lead to an increase in administration fees?

  Given the additional administration required to handle the new Two-Pot Retirement system, there may be changes to administration costs. If there is any change, it will be communicated to members.

• If I have 5 retirement contracts valued at R300 000 each at the date of Two Pot implementation, does this mean that each of the 5 retirement contracts will have a vested pot of R30 000?

  Yes.

• Can I make a lump sum deposit into the retirement pot?

  Yes, you are allowed to make lump sum deposits, however you cannot direct funds to a specific pot only. One-third will always be allocated to your Savings Pot and two-thirds will always be allocated to your Retirement Pot. Both pots are invested the same way.

• Will the money in my Savings Pot earn interest?

  Yes, the money in your Savings Pot will remain invested.

• What happens if I choose to not withdraw any of my retirement savings?

  The money in your savings pot is meant for emergencies. If you choose not to withdraw your Savings Pot money it will continue to grow. You can then withdraw it as cash (you will have to pay tax and fees) when you reach retirement age.

• Will the one third savings pot contributions still be tax deductible for income tax?

  Yes - the full contribution (one third Savings Pot and two thirds Retirement Pot) is tax deductible.

• How does the Savings Pot payout at retirement?

  The Savings Pot will be similar to the one third amount you can access as cash when you retire. You can withdraw all your savings pot money at retirement. Tax rules will apply.

• If I withdraw from my savings pot before retirement, will I still be able to access my R550 000 tax free at retirement?

  Under the current legislation, any withdrawals on exit taken in cash accumulate to your tax free portion at retirement. However, this changes in the new system with Savings Pot withdrawals. Savings Pot withdrawals are taxed under a different system as it is seen as taxable income. When you withdraw from your savings pot you pay tax at your marginal rate. It doesn’t form part of your R550 000 tax free at retirement. Members who continue to access their savings pot during their working lifetime will still be able to access the retirement tax free lump sum of R550 000.

• If I withdraw from my Vested pot before retirement, will I still be able to access my R550 000 tax free at retirement?

  Withdrawals from the Vested Pot will follow old rules and therefore withdrawals will accumulate to your tax free portion at retirement.

• If I move overseas can I access my full pension - that amount prior to Two Pot and then after Two Pot?

  The current emigration rules will apply to your pension fund savings prior and post two pot. The current rules indicate that individuals who are part of a retirement fund would be eligible to receive lump sum benefits only upon meeting the requirements of ceasing to be a South African tax resident and maintaining such non-residency status for a minimum of three consecutive years. This three-year stipulation signifies that individuals who decide to emigrate will need to wait for at least three years before they become eligible to withdraw their retirement savings

• What happens in the event of a divorce?

  Divorce orders can currently be applied against a member’s retirement savings and this does not change in the new Two Pot world.

• When may I NOT be able to access my Savings pot?

  A member may not be able to access their Savings pot under the following situations:

  1. They have already accessed their savings pot in that particular tax year

  2. The member or the non-member spouse have notified the fund that they have instituted divorce proceedings and therefore the member’s Savings pot has been frozen

  3. They have less than R2000 in their savings pot.