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Provident funds more flexible at retirement
Rands and SensePlanning ahead
KINDLY explain the difference between a defined contribution (DC) pension fund and a defined contribution provident fund. My money is allocated to a DC pension fund. Should I rather opt for a DC provident fund? I am 42 years old and hope to retire at 63.
Dave Crawford, independent financial analyst, replies: The difference between a DC provident fund and a DC pension fund is not enormous. Both are DC funds so the benefit at retirement is dependent upon investment performance.
But when it comes to the way fund contributions are treated for income tax purposes, they are different.
Contributions to provident funds made by employers are tax deductible while contributions by members are not. To counter this, in many cases members do not contribute but let their employers make a bigger contribution.
Members' contributions to pension funds are tax deductible up to certain limits, as are those by employers.
There is another difference in the way the funds' benefits are paid out. A provident fund's benefit is fully available in cash at retirement. By contrast, a pension fund is restricted to providing a maximum of onethird in cash. A monthly pension has to be bought with the remaining two-thirds.
If you so wish, and if the fund rules allow it, you may buy a pension with the proceeds of a provident fund - and here you are not limited to taking only one-third in cash.
The tax on lump sums is the same using the normal retirement tax formula. Remember that as things stand any money used to buy a pension will not be taxed as a lump sum, but the pension itself will be taxed as income.
In some ways a DC provident fund provides greater flexibility than a DC pension fund, mostly because of the freedom to choose the proportions of cash and pension at retirement.
Tax on endowments
WHAT are the income tax requirements relating to an endowment policy? I have a 10year endowment policy that will mature this tax year. I should receive about R40 000.
I am a housewife (married out of community of property). I am not a registered taxpayer and I do not have a tax number.
Beric Croome, tax partner of Grant Thornton Kessel Feinstein replies: As you invested in the endowment policy yourself, the R40 000 you receive on its maturity will not be subject to tax.
The SA Revenue Service (SARS) accepts that where an investor has paid premiums into an endowment policy and holds the policy for the prescribed period (currently a minimum of five years), the money received on maturity is a receipt of a capital nature. And capital receipts are not liable for income tax.
If you had acquired the policy from someone else in order to realise a profit, the result would have been very different as SARS could then take the view that you are a dealer in policies and they would seek to tax the excess realised on the investment acquired.
Betwixt and between
MY WIFE and I are pensioners over 65 years old. We are both permanent residents of SA. The only sources of income are my company pension, a pension from Britain, two small annuities and interest on R200 000 my wife invested.
We intend living with a daughter in England from March 26 until October 2 each year. To whom should we pay income tax?
Beric Croome, tax partner of Grant Thornton Kessel Feinstein replies: Because you are permanent residents of SA and have not chosen to live permanently in the UK, any interest earned by your wife will continue to be liable to tax in SA.
Section 10(1)(hA) of the Income Tax Act exempts interest earned by persons who are not ordinarily resident in SA. In addition, the taxpayer in question must have been physically absent from the country for a period of at least 183 days in aggregate during the year of assessment in which the interest is received. You and your wife will be out of SA for approximately 190 days of each tax year and would, on the face of it, meet the 183 day rule mentioned above.
However, the overriding criterion is that the persons in receipt of interest are not ordinarily resident in SA. Unfortunately the Income Tax Act does not define what is meant by "ordinarily resident" but generally it is that place to which a taxpayer "habitually returns after their wanderings". If you maintain your home and other connections in SA, you will continue to be regarded as ordinarily resident in South Africa and any interest you earn will be taxable in SA.
We regret no personal correspondence can be entered into. The Sunday Times accepts no responsibility for the advice given in BT Money.
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