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Taxation Laws Amendment Bills, 2007 (Retirement Lump Sum Payouts). Informal Hearings 13 March 2007. Retirement Funding Basics. Three Basic Types of Retirement Funds. Pension Funds (Employment Plans) Example: Private sector Example: GEPF Provident Funds (Employment Plans)
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Taxation Laws Amendment Bills, 2007(Retirement Lump Sum Payouts) Informal Hearings 13 March 2007
Three Basic Types of Retirement Funds • Pension Funds (Employment Plans) • Example: Private sector • Example: GEPF • Provident Funds (Employment Plans) • Example: Unions • Retirement Annuity Funds (Individual) • Example: Contractual savings
Three Retirement Stages • Stage #1: Contributions • Stage #2: Fund Growth • Stage #3: Withdrawals • Lump sum payouts • Conversion to annuities • Guaranteed annuities • Living Annuities
Contributions: No Change • Pension Funds • Employee contributions are deductible up to 7,5 of employee salary • Employer contributions are deductible up to 20% of employee salary • Provident Funds • No deductions for employee contributions • Employer contributions are deductible up to 20% of employee salary • Individual Retirement Annuity Funds • Member contributions are deductible up to 15% of contributions (after set offs for employment contributions)
Growth: Tax Removed • Under current law, all retirement funds (i.e. pension, provident and retirement annuity funds) are subject to the Tax on Retirement Funds • 9% rate (down from a 25% historic high) • The tax impacts only retirement fund interest, rental and foreign dividends • The Tax on Retirement Funds removed • As of 1 March 2007 • 1 final payment still due
Withdrawals • Permissible withdrawals • Only a certain percentage of fund value can be withdrawn upon retirement (i.e. as a lump sum) • All the excess must be converted to a (guaranteed or living) annuity with funds withdrawn steadily over the post-retirement period • Taxation of permissible withdrawals • Lump sum withdrawals: tax exemption plus tax averaging • Annuity withdrawals: growth is tax-free before withdrawal, but fully taxable upon withdrawal
Permissible Lump Sums • Current Law • Pension and individual retirement annuity funds can be withdrawn equal to: the greater of 1/3rd of total value or an amount bearing a per annum annuity up to R1 800) • Provident Funds can be fully withdrawn • Proposal • The monetary R1 800 threshold will be abandoned • The new monetary threshold will be R50 000 as this sums relates to the 2/3rds (the change prevents fees from outpacing potential benefits)
Tax-Free Lump Sums: “Say Good Bye to (2) Old Formulas” • Formula A (Good Bye!) • Y = 15/1 x N/50 x 1/3rd x Average Salary • N means years of service • Maximum years (50) and salary (R60 000) • Formula B (Good Bye!) • Z = C + E (minus) D • C means formula A, E means nondeductible contributions and D means pre-1941 deductible contributions • Formula C stays (exemption for pre-1998 government years of service)
Tax-Free Lump Sums: New Regime • Under the new regime, the tax-free lump sum equals: • R300 000 (+) • Previous non-deductible contributions (+) • Pre-1998 Government employment (formula C) • The new regime ends all reliance on “salary” and “years of service”
Taxable Lump Sums:“Say Good Bye to Complex Averaging” • Formula 5(10) (Good Bye!) • Y (A divided by [B + D – (C + L)]; (x) • (B – L); (+) • (L x R) • Along with other inputs • In essence, the taxable lump sum was determined with reference to non-lump sum taxable income over 2 years with an 18% minimum • Avoidance Scheme: Wealthy taxpayers reduced their lump sums to an 18% rate by relying on tax-free preference dividends
Taxable Lump Sums: New Regime • Under the new regime, the taxable lump sum is: • Taxed at 18% for the first R300 000 taxable amount (+) • Taxed at 36% for the remainder • Complex averaging and planning opportunities removed
New Lump Sum Regime: Combined • Once the tax-free lump sum is considered, the net effect is a separate rate schedule for lump sums, as follows: • Previous non-deductible contributions and pre-1998 Government employment (formula C) are tax-free • Next R0 to R300 000 is tax-free • Next R300 001 to R600 000 is taxed at 18% • Next R600 001 & more is taxed at 36%
New Lump Sum Benefits: Rationale • Simplicity (including a simplified withholding regime) • The new regime skews tax benefits in favour of lower- and middle-income earners • High net worth individuals no longer benefit from the use of preference share schemes • Note: The lump sum formulas are applied on a cumulative basis over the taxpayer’s lifetime
Effective Date • 1 October 2007 • The delayed effective date provides sufficient time for operational systems changes • Stay tuned for more changes!!