Key Differences Between Retirement Annuities and Living Annuities

Posted on: 4th December 2024 in Retirement Planning

Planning for retirement is one of the most important financial decisions you’ll make.

You’ve likely heard about retirement annuities (RAs) and living annuities (LAs) in South Africa. While they might sound similar, these two products serve different purposes in your retirement journey.

In this article, we’ll break down the key differences to help you make the best choices for your financial future.

What Are Retirement Annuities (RAs)?

A retirement annuity (RA) is a long-term savings plan designed to help you build a solid nest egg for retirement. Think of it as a disciplined way to save over your working years while enjoying some great tax perks along the way.

Key Features of RAs

Tax Benefits

One of the biggest advantages of an RA is the tax break you get on your contributions.

Up to 27.5% of your taxable income (capped at R350,000 per year) can be deducted from your income tax. Plus, the growth in your RA – like interest, dividends, and capital gains – is entirely tax-free.

Restricted Access

You can only access your funds in an RA once you turn 55 unless there are exceptional circumstances like permanent disability. This rule helps keep your retirement savings intact.

Withdrawal Rules

When you retire, you can withdraw up to one-third of your RA as a lump sum. The rest must be used to purchase an annuity – such as a living annuity – to provide a regular income during your retirement.

Who Should Consider an RA?

If you’re in the saving stage of life and looking to secure your financial future, an RA is a smart choice. It encourages you to save regularly and provides some welcome tax relief.

What Are Living Annuities (LAs)?

On the other hand, a living annuity (LA) is a product you buy with your retirement savings – often from an RA – when you retire. It allows you to draw an income while controlling how your money is invested.

Key Features of LAs

Flexible Income

With an LA, you can choose how much income to draw each year within limits set by law (currently between 2.5% and 17.5% of your total investment). You can adjust this annually based on your needs.

Investment Control

Unlike other annuities, you get to decide where your money is invested. This can be empowering, but it also means you must carefully manage the risks.

Risk of Running Out

Since the income you draw depends on the performance of your investments, there’s a risk you could run out of money if markets perform poorly or if you withdraw too much too quickly.

Estate Planning

If there’s any money left in your LA when you pass away, it can be left to your beneficiaries. This makes it a popular choice for those who want to leave a legacy.

Who Should Consider an LA?

Living annuities are best for retirees who want flexibility in their income and are comfortable managing their investments or working with a financial adviser.

Critical Differences Between Retirement Annuities and Living Annuities

Stage of Financial Planning

RAs are for saving and building wealth before retirement.
LAs are for managing and drawing income after retirement.

Tax Treatment

RAs: Contributions are tax-deductible, and growth is tax-free. Withdrawals are taxed when you access the funds.
LAs: Withdrawals are taxed as part of your income, depending on your marginal tax rate.

Access to Funds

RAs: Your funds are locked away until age 55, promoting long-term savings discipline.
LAs: You can draw an income annually but within the limits set by law.

Investment Control

RAs: Typically managed by financial institutions with little input from you.
LAs: You have complete control over how your money is invested.

Estate Planning

RAs: There’s no option to leave unused funds to your beneficiaries.
LAs: Any remaining balance can be passed on to your heirs.

Factors to Consider When Choosing

Your Financial Goals

Are you still building your retirement savings? Or are you retired and looking to draw an income? Your current stage of life will help determine whether you need an RA or an LA.

Risk Tolerance

Living annuities give you more control but also come with more risk. You’ll need to ensure your withdrawals and investments are sustainable.

Longevity and Health

If you’re in good health and expect a long retirement, you’ll need a strategy that ensures your income lasts. This is especially important with an LA, where poor planning could leave you without funds.

Estate Planning

If leaving money to your loved ones is essential, an LA may be better, as any remaining balance can go to your beneficiaries.

Practical Tips for Retirement Planning

Work with a Financial Adviser: a professional can help you make informed decisions, especially when choosing investments or calculating sustainable withdrawal rates.
Diversify Your Investments: don’t put all your eggs in one basket. A mix of assets can reduce risk and improve the longevity of your savings.
Review Your Plans Regularly: your financial needs and the market change over time, so it’s important to reassess your plan every year.

Conclusion

Retirement and living annuities play vital roles in retirement planning, but they’re designed for different stages of life. While an RA helps you save for retirement with tax advantages, an LA provides flexibility and control over your income during retirement.

Understanding these differences is critical to making the right choice. Remember, retirement planning isn’t one-size-fits-all, so be sure to align your decisions with your goals and circumstances.

Ready to Secure Your Retirement?

At Holborn Assets, we’re here to help you navigate the complexities of retirement planning. Contact us today to discuss your needs and create a plan tailored just for you.