QA reader asks:
My dad has been paying money into a retirement annuity (RA) for a number of years and he turns 60 in April. He now has the option to either leave the funds for another five years, transfer them to another fund, or take the tax-free cash and leave the remaining balance or transfer to another fund. He feels that he’s been paying thousands of rands into this RA his whole life and now only gets a small amount. The value of the fund is R390000.
My dad retired at age 58 and earns a pension of about R3500 per month. My mother still works and she earns about R15500 after tax per month.
They still owe about R300000 on their home loan on a house worth about R1,6-million.
Would you suggest that he transfer the R390000 to some other fund that may perform better perhaps? Should he take the tax-free cash and put it down on another small property that may yield a return of say 15% to 20% per year for the next two to three years?
A Paul McKillen, actuary at Odyssey, and, Arnold Singh, manager of Odyssey Personal Financial Planners, reply:
Your dad’s decision to invest in an RA was good a one, as the income from it will top up his monthly pension of R3500.
Before offering appropriate advice it would be necessary to conduct a full financial needs analysis. The following are some of the considerations to bear in mind when reviewing his options:
1. The value of the RA fund (R390000) will have been determined by the performance of the underlying funds. If the existing policy has under-performed relative to a sensible benchmark (for example premiums accumulated at CPI + 2% per annum over the term), then this under-performance is possibly due to excessive fees and costs on the product, poor investment performance (that is underlying asset under- performance relative to peer group), or poor investment selection. An assessment of costs may help make a decision about whether or not to move the retirement annuity.
If these were conservative funds, the value will not be as high as moderate or aggressive funds. At his age, would he want to take on more risk by switching to moderate or aggressive funds? The markets have performed very well in the past four years, but it is difficult to predict whether this trend will continue.
2. It will be necessary to determine your dad’s risk profile and his time-horizon for the investment before switching to other underlying funds. Should he decide to transfer to another RA, theoretically, he will not incur a new round of costs in terms of the new commission ruling as of March 1 2007. It might be more prudent to switch to better-performing funds with the same assurer, should these funds match his risk profile and time-horizon.
3. If the RA matures at age 60, he does not have to extend the term by another five years, but on a yearly basis, until he decides to retire from it. Should he decide to take the tax-free portion, or up to one-third of the value, he is obliged to invest the remaining two-thirds to purchase an annuity, either from the same assurer, or another assurer, which offers a better annuity income.
If the home loan is the only debt, it may be wise to pay the one third into the bond. This will significantly reduce the bond and hence the term of the bond and the interest paid thereon. Furthermore, the annuity earned from the invested two-thirds could also be used to pay off the bond even quicker, with consequent savings in interest.
Once the bond is paid off, he will have additional monthly income available to him.
Investing in property:
There are benefits to investing in property, but it is typically an illiquid asset (cannot necessarily be redeemed in 48 hours) and does not really provide diversification, given that the primary asset of your parents appears to be their R1,6-million residence. All monies invested in residential property may be high risk if the bottom falls out of the property market.
Again, investing in another property at this point in time — when property prices are still high, rentals are not keeping pace with house prices and property appreciation has fallen from 30% to 40% per year to between 10% and 15% per annum — may be risky. Your dad may also be required to subsidise the rental. Furthermore, the mortgage bond rate has increased by two percentage points from June to December 2006.
There is the real possibility that rates may rise further this year, making repayments more expensive.
However, if your dad is able to purchase a property at a price lower than the going rate for the area, renovate cheaply, find a good tenant, subsidise the rental and hold on to it for at least three years, it might be possible to make a profit on the resale. Be wary, however, of the maintenance aspect and potential of securing a good tenant.
Alternatively, there are numerous property and property equity funds that are likely to offer similar returns and yields over the long-term compared to direct property investment (albeit with far greater short-term volatility) and this type of investment will also be far more liquid.
Saving on petrol and electricity
M&G Money, in conjunction with Metropolitan Odyssey, is running a competition for the best savings tip of the month. Savings start, not with putting money away, but with finding ingenious ways to cut expenses.
Please submit your tips to [email protected], or fax to 011 883 9496, or write to PO Box 91667, Auckland Park 2006.
We have had some very interesting savings tips this month.
Some of the more whacky ones have been posted on the website, and here are some that are different, but useful:
This month’s winner is Matthew Thompson, who knows a thing or two about saving petrol, as he is from Zimbabwe:
Check every two weeks that your car’s tyres are at the right pressure, as under-inflated tyres can increase fuel consumption by as much as seven percent.
Faulty wheel-alignment will also increase the rolling resistance of your car’s tyres, which will increase your fuel consumption and wear out the tyres quicker.
Finally, remove anything from your car boot that you do not require — an extra 30kg adds two percent to fuel consumption — and remove roof racks if not in use, as they cause air drag.
Dennis Hoines suggests installing an anthracite/wood-burning heater. They are now available in very attractive designs and cut your heating bills drastically.
(Editor’s note: I had one of these in my previous home, the heat was incredible and very efficient.)
Women will appreciate Martje Nooij’s advice, especially if they have a favourite lipstick:
Do not throw away your lipstick when you think it’s finished.
Use a cotton bud and you will be able to use that same lipstick for a few more weeks.