“Obviously, too much goes to tax,” the One Rand Man lamented after dividing his monthly income into trusty Tupperware containers of the coins required to pay for each of his monthly commitments.
He patted seven Tupperware boxes of coins for his unemployment insurance fund and income tax.
Next to this stash, his contribution to his pension fund appeared dwarfed – just two Tupperware boxes are going to fund his future retirement income. As a 30-something in 2014 and in a higher income group, he has a good chance of living well beyond the average life expectancy of 15 to 20 years in retirement.
Even if he retires at the age of 70 – instead of the current typical retirement age of 65 – he may live 20 to 30 years or more in retirement.
The One Rand Man is a salaried employee, so his options to reduce his tax are limited, but one thing he should check is whether he is contributing as much as he can to his retirement savings and enjoying the maximum tax deductions for such contributions. This could reduce the boxes of coins destined for the taxman and make a big impact on what he will have to live on in retirement.
The One Rand Man says his company pension fund contributions are currently 7.5 percent of his income, but he isn’t too sure how much his employer contributes, what is included in that income and whether or not there is any room for him to contribute more to his pension fund and to save on tax.
To help the One Rand Man, and any salaried employee who feels they are in a similar position, here are the things he should do or be aware of:
1 . Find out whether your retirement fund contributions are based on your total remuneration or only part of it. Very often your pension fund contributions are based on your pensionable remuneration. You may receive remuneration in addition to this, technically known as non-retirement-funding income, such as a travel allowance for business travel or an annual bonus. Your retirement fund contributions may be based only on what is regarded as retirement-funding income. If you do receive additional remuneration and your fund rules do not allow you to make contributions on your full income, you will be able to make additional tax-deductible contributions to a retirement annuity (RA).
2. Find out or work out how much of your retirement-funding income you are contributing to a retirement fund. The One Rand Man says he is contributing 7.5 percent of his income to his company pension fund. A contribution of 7.5 percent of your retirement-funding income is the maximum you can contribute to a pension fund for the purposes of a tax deduction. But if your contribution is less than this, you may be able to increase your contribution.
If you can establish what your marginal tax rate is, you can also calculate how much you will save in tax for each additional rand you contribute.
Check your taxable income against the current tax tables to see what your marginal tax rate is.
For example, if you are earning between R272 701 and R377 450 a year in taxable income (that is, your salary less your pension fund contributions), your marginal tax rate will be 30 percent. This means any income you earn over R272 700 is taxed at 30 percent. The tax rates on the income you earn below this amount are lower and the first R70 700 is tax-free if you are below the age of 65.
If, for example, you are earning R300 000 a year and you can contribute R1 000 a month more to your retirement fund, you will reduce by R12 000 the amount on which you are paying tax at 30 percent and thus save 30 percent of R12 000, or R3 600 in tax over the year.
3. Find out how much non-retirement-funding income you earn. For example, if you, like the One Rand Man, receive an annual bonus, the bonus is probably regarded as non-retirement-funding income (unless your fund rules allow the bonus to be part of your pensionable remuneration). Other typical sources of non-retirement-funding income are travel allowances and commission.
If you earn any other income – for example, from any work you do beyond your employment or as rental income, you can add this to your non-retirement funding income.
Currently you can contribute 15 percent of this non-retirement funding income to an RA and enjoy a tax deduction. That means if you earn a bonus of R20 000 a year, you can contribute R3 000 a year to an RA and enjoy a tax deduction for this amount.
4. If you don’t have any non-retirement funding income, you can still contribute R3 500 minus your current pension fund contributions or R1 750, whichever is greater, to an RA to enjoy the tax benefits.
5. Next year, the allowable deductions in respect of pension, provident and retirement annuity funds will be harmonised. From March next year, you will need to calculate whether you and/or your employer are currently contributing 27.5 percent of your taxable income or your remuneration, whichever is higher.
6. When you find out about your contributions to your retirement fund, ask your fund to tell you your income replacement ratio. There are a number of different formulas, but this ratio tells you what percentage of your pensionable remuneration your expected pension will be.
You should target at least 75 percent of your total earnings, and more if you expect that your expenses at retirement will not decrease by as much as 25 percent.