Shaun Duddy, Head of Product Development at Allan Gray

Although the primary objective of the two-pot retirement system – set to be implemented on 1 September 2024 – is to improve preservation, the extent to which the new rules improve or worsen preservation rules depends on the type of retirement fund in which you are investing.

Let’s start with pension and provident funds, including preservation funds. If you are investing for retirement in one of these funds, the new rules will assist with improved preservation going forward. This is because, under the current rules, you are able to take up to 100% of your assets as cash from your pension or provident fund each time you change employers or leave an employer, or as a once-off withdrawal from your preservation fund. In all of these cases, your withdrawals will be net of the applicable taxes. In the worst case, if you withdraw everything and do not invest it elsewhere, you effectively have to start all over again with fewer years to rebuild this investment before you retire.

In contrast, under the new rules, the assets in your savings component will be accessible (once per tax year, in the case of an emergency, which might be when you change employers or leave your employer) and the assets in your vested component will still be accessible (when you change employers or leave your employer), but the assets in your retirement component cannot be accessed. Automatically preserving the assets in your retirement component assists in ensuring that a minimum amount of assets remain invested until and for retirement.

In the case of new retirement fund members starting to invest on or after 1 September 2024, a minimum of two-thirds of their retirement fund assets will make it to retirement, which is a substantial improvement compared to the current rules. Over time, allowing access to the savings component should also reduce (and ultimately remove) the often-counterproductive incentive to leave one’s job in order to access retirement fund assets, as well as the instinct to take all of them when doing so. 

However, on the other side of the coin, we have retirement annuity funds (RAs). Here, the new rules actually run the risk of worsening preservation. Under the current rules, you cannot access any of your retirement fund assets before age 55, even if you change jobs or lose your job. In other words, RAs have always had 100% preservation. This will change with the introduction of the savings component under the new rules: A portion of your retirement fund assets will now be accessible. To the extent that this access is used as intended, to assist you in case of emergencies, it is a positive. However, the risk is that this access introduces a new temptation to access your retirement fund assets, potentially reducing preservation and ultimately resulting in a lower and less sustainable income in retirement.

To illustrate these scenarios, Graph 1 looks at different outcomes for a pension or provident fund member contributing R6 000 per month over the last 20 years and investing in the Allan Gray Balanced Fund. In Scenario 1 (the light grey line), they take all of their retirement fund assets when they change employers at the end of year 5, and again at the end of year 15, which is allowable under the current rules. Scenario 2 (the dark grey line) assumes that the new rules apply: One-third of each contribution (i.e. R2 000) is allocated to a savings component, two thirds of each contribution (i.e. R4 000) is allocated to a retirement component, and only the full savings component is taken each and every year. Lastly, Scenario 3 (the red line) assumes that nothing is taken when changing employers. Relative to Scenario 1, after 20 years, the member would have 6.3 times more in Scenario 2 and 9.5 times more in Scenario 3. This illustrates the power of preservation and how the new rules can improve preservation in pension and provident funds.

Graph 2 shows the same scenarios for a member of an RA. However, for Scenario 1 (the light grey line), no assets are accessible under the current rules when changing employers, therefore Scenarios 1 and 3 (as described in Graph 1) are equal. This graph again shows the importance of preservation. However, it also shows that the ability to “only” access the savings component under the new rules, as represented in Scenario 2 (the dark grey line), is actually a negative relative to the current rules for this type of retirement fund.

In closing, the new rules are a positive step, but in reality, it is ultimately the combination of investor behaviours, and not the new rules alone, that will lead to better retirement outcomes.

ENDS