/ 10 October 2006

Should I cash in my pension?

A Mail & Guardian reader asks:

I am changing jobs and have decided to take out my pension as I am young and I have a policy with PPS. I would like some advice on how to invest it or should I pay it on my bond?

Arnold Singh from Metropolitan Odyssey replies:

The first oversight is deciding to “take out” your pension payout before seeking advice on how to invest or use it, instead of the other way around.

As a first step, a financial needs analysis should be undertaken in order to holistically view your financial portfolio. By cashing in pension values when changing jobs, you are effectively reducing your pension payout when you eventually retire.

Did you know that only 6% to 10% of South Africans retire with an adequate pension? This means that 90% of South Africans rely on the government for a pension or may have some other form of income that is not sufficient. They then may have to work during their retirement or depend on family for support.

In addition, by “cashing in” your pension payout, you will unnecessarily pay tax beyond the first R1 800 that is tax-free on resignation. This effectively reduces the capital available for investment. It would be advisable as well as more tax-efficient to transfer the full pension payout as a tax-free lump sum into a preservation fund, retirement annuity or into your new employer’s pension fund, if the rules of the fund permit this and if the fund has a good history of performance.

The underlying funds in these retirement vehicles should perform better than the bond rate as these are taxed at an attractive 9% on net rental, interest and foreign dividends and no capital gains tax is applicable, compared to the 30% tax in the individual policyholder’s fund (endowment), which is also liable for capital gains tax, assuming the funds are the same.

As you have already decided to cash in your pension, paying it into the bond to reduce capital and interest payable is one option. Alternatively, you can make a lump sum investment into a unit trust for three to five years or more. Make sure you choose funds matching your risk profile. This will give you an investment with low costs and liquidity of the capital.

It is not clear whether you have PPS risk cover or you have a PPS RA. Having PPS shares in your risk cover will help to top up your retirement provision to some degree, depending on the number of shares you own and the dividends declared annually. Having a PPS RA will definitely boost your retirement, again depending on the monthly premiums paid and the tax benefit achieved.

Happy Mashigo writes:

I need advice on how to handle shares and when to sell or hold. I have shares with Old Mutual (300) and Telkom (500). I have had them for three years. I have been receiving the dividends. I thought that my money will grow, but I think perhaps the only way to grow my money is to sell and buy again. Please advise.

Garth Mackenzie, head of derivatives trading, BoE Private Clients replies:

For any equity allocation it is important to remember when investing that: “Time in the market is more important than timing the market”. Happy will have done very well out of both Telkom and Old Mutual, and he should continue to hold the shares and to receive the dividends.

It is important to re-invest the dividends to take advantage of the tax-free compounding effect that this creates.

Telkom is a high dividend- yielding stock due to its strong cash flow. However, new competition from rival telecommunications companies may prove to be a headwind in coming years. The company is in a massive spending drive to upgrade its infrastructure to world-class telecoms standards, and this should help it to maintain its dominant position in the market for a long time to come.

Old Mutual has its primary listing in London, which means that the stock is a rand hedge investment. This will protect Happy against any possible rand weakness in the future and it is also a good proxy (representative) for overall global stock market performance, as it benefits from higher performance fees when markets are strong.

My advice would be to re-invest the dividends into other stocks to create a more diversified portfolio. He should look to invest in stocks that will benefit from the high level of Gross Domestic Fixed Investment spending, which South Africa is set to benefit from in coming years. These could include Reunert, Barloworld, Murray & Roberts, and Group Five. However it is important for Happy to seek further advice on structuring the appropriate investment portfolio in terms of his own risk and return profile from an accredited financial services advisor.