DEFINED CONTRIBUTION

TAXATION OF BENEFITS

Overview

Disclaimer: In the event of a conflict anywhere on this website with the provisions of the Income Tax Act, the Income Tax Act will apply.

Funds such as the Cape Municipal Pension Fund enjoy a special tax status in terms of the Income Tax Act as so-called paragraph (a) funds. Up to 1 March 1998, any lump sum benefit paid from a paragraph (a) fund, like the Cape Municipal Pension Fund, was tax-free.

With effect from 1 March 1998 the tax status of lump sum benefits from paragraph (a) funds changed, in effect making such benefits taxable.

However, the Income Tax Act was changed to protect "vested rights". This means that any lump sum benefit you receive from a paragraph (a) fund is only taxable in the proportion to the years of pensionable service you accrue after 1 March 1998 to the total years of pensionable service you have.

In addition, the taxable amount of any lump sum benefit will qualify for a further tax-free amount in line with what is allowed for non-paragraph (a) funds.

This section covers the tax treatment of:

Taxation of the cash lump sum payment

All retirees are eligible for a tax-free lump sum of R500 000. In addition to this tax-free amount, retirees who were members of the Fund prior to 1 March 1998, will retain their favourable tax status applicable to “paragraph A” Funds. The formula for calculating the tax-free lump sum benefit for those members who joined prior to 1 March 1998  is rather complex and will be calculated for you at the time of your retirement.

Any part of your lump sum benefit that is subject to tax, will be taxed as follows:

Taxable Amount

Rate of Tax

R0 to R500 000m

0%

From R500 001 to R700 000

R0 plus 18% of taxable income exceeding R500 000

From R700 001 but not exceeding R1 050 000

R36 000 plus 27% of taxable income exceeding R700 000

Exceeding R1 050 001

R130 500 plus 36% of taxable income exceeding    R1 050 000

Taxation of your pension benefit

For the 2020/2021 tax year, the following tax threshholds apply:

  • If you are under the age of 65 and your total income is less than R83 100 per annum you will pay no tax.
  • If you are aged 65 to 75 and your total income is less than R128 650 per annum, you will pay no tax.
  • If you are aged 75 and older and your total income is less than R143 850 per annum, you will pay no tax.

Death in service benefits

  • Taxation of the cash lump sum payment

Taxation of death benefits is treated on the same basis as taxation on retirement.

  • Taxation of your beneficiaries pension benefit

Your beneficiaries will pay tax in the usual way on the monthly pension they receive.

Disability income benefits

Any disability income benefit you receive will constitute income and will be taxed in the normal way.

Resignation or dismissal benefits

The taxation of your resignation or dismissal benefit is rather complex and depends on how you elect to receive your benefit. In this regard you have the following option:

Taxation of any cash benefit

If you were a member of the Fund on or before 1 March 1998, the tax-free part of the cash part of your resignation or dismissal benefit is calculated as:

The number of completed years of service you had before 1 March 1998 ÷ the total completed years of service you have on exit X your resignation or dismissal benefit + the tax free portion as shown in the table below.

The tax on the taxable portion is calculated as per the table below.

If you joined the Fund after 1 March 1998 the following applies:

The tax-free amount in respect of resignation benefits (referred to as “withdrawal benefits” by SARS) is R25 000.  However, the R25 000 is a 'once-off' cumulative value (a lifetime allowance), and once the limit of R25 000 is reached, all further resignation benefits will be taxed.

It is very important also to note that the tax-exempt resignation benefit amount of R25 000 reduces the once-off tax exempt amount of R500 000 at retirement.

SARS states that “the tax on a specific retirement fund lump sum withdrawal benefit (X) is equal to–

 

“the tax determined by applying the tax table to the aggregate of that lump sum X plus all other retirement fund lump sum withdrawal benefits accruing from March 2009 and all retirement fund lump sum benefits accruing from October 2007; minus

 

“the tax determined by applying the tax table to the aggregate of all retirement fund lump sum withdrawal benefits accruing before lump sum X from March 2009 and all retirement fund lump sum benefits accruing from October 2007.” 

 

Taxable Amount 

Rate of Tax 

Up to R25 000

0% 

R25 000 to R660 000

18% of the taxable income exceeding R25 000

From R660 001 to R990 000

R114 300 plus 27% of the amount above R660 000

R990 001 and above

R203 400 + 36% of the amount above R990 000

Taxation if you become a deferred pensioner

In this case no tax is payable at the time you elect to become a deferred pensioner. You will, however, pay tax on the benefit you ultimately receive.

Importantly if you elect this option you retain the favourable tax status applicable to paragraph (a) funds as described above.

Taxation if you transfer to a retirement annuity

In this case no tax is payable at the time you elect to transfer your money to a retirement annuity. You will, however, pay tax on the benefit you ultimately receive.

Importantly, if you elect this option you lose the favourable tax status applicable to paragraph (a) funds as described above.

Taxation if you transfer to your new Employer Fund

In this case you need to establish three issues, namely:

  • Is your new Employer's Fund a paragraph (a) Fund or not?

In this case no tax is payable at this time. You will, however, pay tax on the benefit you ultimately receive.

You will also retain the favourable tax status applicable to paragraph (a) funds as described above.

  • Is your new Employer's Fund NOT a paragraph (a) Pension Fund?

No tax is payable at this time - you will, however, pay tax on the benefit you ultimately receive.

Importantly you lose the favourable tax status applicable to paragraph (a) funds as described above.

  • Is your new Employer's Fund a paragraph (a) Provident Fund?

In this case you pay tax immediately at your marginal tax rate of 2/3rds on your benefit. It is a relatively penal tax position.

You will retain the favourable tax status applicable to paragraph (a) funds as described above.

  • Is your new Employer's Fund a pension or provident fund?

In this case you are deemed to have received a cash benefit equal to your own contribution plus the investment return thereon at the time of your transfer. This deemed amount will be taxed in the same way as a cash benefit (described above) and the balance of the benefit will be transferred without attracting further tax to your new Employer's Provident Fund.

You will be subject to tax when you ultimately receive your benefit from your new Employer's Provident Fund and you lose the favourable tax status applicable to paragraph (a) funds as described above.

Taxation if you transfer to a Preservation Fund

The tax treatment depends on whether the Preservation Fund is a pension or provident fund.

  • Preservation Fund is a Pension Fund. No tax is payable on transfer.
  • Preservation Fund is a Provident Fund In this case you are deemed to have received a cash benefit equal to your own contribution plus the investment return thereon at the time of your transfer. This deemed amount will be taxed in the same way as a cash benefit (described above) and the balance of the benefit will be transferred without attracting further tax to the Preservation Fund.

You will be subject to tax when you ultimately receive your benefit from the Preservation Provident Fund and you lose the favourable tax status applicable to paragraph (a) funds as described above.

Benefits paid to a former spouse in terms of a Divorce Order

This is a complex subject and we are not able to cover all the details here.  However, our current understanding of the tax legislation is that, if you get divorced and the divorce order (made after March 2009) stipulates that a portion of your “pension interest” in the Fund must be paid to your ex-spouse, any tax that the Fund is required to pay when executing this order will be deducted from the portion paid to your ex-spouse – i.e. the tax will be for your ex-spouse’s account and not for your account.  The tax rates applicable will be the same as the tax rates in respect of a cash resignation benefit, as set out above.  In negotiating the divorce settlement, however, you and your spouse are strongly encouraged to take specialist advice (including tax advice) on the implications of “pension splitting”, as there have been several changes in the law relating to this and we cannot be certain that the law will not be changed again.

PENSION FUND RULE BOOK

The registered rules of the Fund contain everything you need to know about your Fund, its Governance, Management, Investments and Benefits. The Fund is bound by the Rules of the Fund. In the event of a dispute between any information provided and the Rules of the Fund, the rules will apply.

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