When most of us think about our retirement, we consider lounging on the beach, playing with our grandkids or picking up a new hobby. Very few of us think we would still be working or struggling to make ends meet when we are in our senior years. Therefore we need to make sure to take care of our retirement funds to make sure that by the time that we are ready to retire we will be financially comfortable to do so.
One of the reasons why people cash out on their retirement fund early is because they change jobs. A new job is an exciting change and new challenge that can mean the promise of career growth and a higher income; however it can also mean unexpected consequences for your retirement planning. You have three options on leaving one job for another if you have a company set-up retirement, provident or pension plan - you can cash in, you can transfer to another fund, or you can choose a combination of the two.
People typically change jobs between five and seven times throughout their lifetime, and one of the biggest retirement mistakes you can make is to cash in your pension plan when you move between jobs. Cashing in is very popular in South Africa, and many choose to cash out the retirement funds because they want to use it to pay off the debts. But using tomorrow’s money to pay off debts may not be the solution, as you will accumulate more debt once you need the funds, come retirement. In South Africa, 33% of retirees still have debt to repay once they've stopped working, and few can afford to retire because they have (mis)spent their retirement savings ahead of time. The option of cashing in your hard-earned retirement savings is an attractive one, but most people don’t realise the devastating effect it has on their long-term pension plan.
Magnus Heystek Junior, a Certified Financial Planner ® at Brenthurst Wealth, explains how he sees the option to cash out as a big issue and temptation, which many people cannot resist. Magnus said in his career as a wealth management advisor he has heard all kinds of reasons for cashing out, from “I have debt to pay off,” or “I don’t mind paying the tax, I will make it up later,” to “I’ll go and buy another investment that will do better than my pension fund.” Then upon reaching 55, 60 or 65, with simply not have enough money to retire, they (clients) say one of their biggest regrets is that they didn’t preserve that capital.
Another reason not to cash out your retirement funds is that you often have to pay a hefty penalty fee if you withdraw the money before you were due. For most funds it is 10% of the amount but it can differ from company to company. Investors will also be liable for tax, as pre-withdrawal tax tables are not favourable to the investors in any manner.
Also remember that you “lose” not just your savings when you withdraw early, but also losing the compound interest you would have earned over time. This is referred to as opportunity cost, and many investors will be missing out on compounding interest over time. To put this into perspective, imagine you contribute R1 000 per month into your fund, and earn a net 4% real return (after costs and inflation). If you grow this continually over 40 years, your investment could equal to R1.14m on retirement. However if you decided after ten years to change jobs, cash out your retirement to, for example, upgrade your car and to start saving a fresh at your new company, the consequences when you retire you would only have only saved R673 000 - 41% less to retire on.
When changing jobs, rolling over your retirement funds to your new work place is generally a simple and easy process. Your new HR Manager should have all the relevant forms for you to complete to enable them to pull the funds from the former plan and reinvest it. This will also avoid any penalty fees and tax issues. If your new employer does not have a retirement plan available to its employees, you can reinvest it in a new retirement plan of your choosing. One such option is investing your previous pension or provident fund into structure that is known as a Preservation Fund. As the title indicates, it preserves tetirement capital until retirement, without any tax or penalty implications.
Transferring to another fund preserves your savings, your future return on those savings and the tax benefits attached to those savings. Cashing out your large sum of money may be tempting, but will invariably not be worth it in the long run. Rather ensure you invest wisely in your retirement, and that you will be getting the best possible return for your money by employing a financial advisor who can take care of your fund. Remember the objective behind your Retirement Savings: to support you financially at retirement.
Brenthurst Wealth Management has a team of highly-qualified advisors who provide clients with sound and impartial investment advice. They provide advice on an individual basis and tailor investment strategies for each client separately based on their specific circumstances. Brenthurst Wealth is registered at the FPI as an accredited professional business practice and was recently voted one of the top five boutique wealth management firms in South Africa. Find out more about their services