Col 6: Scary Pension Fund Withdrawals

Most people drawing a pension from a living annuity will run out of money before they retire – but many pensioners could avoid this by using what is called ‘blended” annuity

By Bruce Cameron
Co-author of The Ultimate Guide to Retirement n South Africa

 

Many, many South African retirement fund pensioners will run out of funds before they die. This is particularly the case for people receiving an income from an investment linked living annuity.

But many people could be saved from penury by altering that structure of their living annuities, converting to a living annuity that includes a traditional, guaranteed annuity.

Of 20 000 pensioners recently surveyed by pensions specialist, Just Retirement, found there are 68% of retirees who are living annuities will face their pensions will start reducing before death. That point is known as the ‘point of ruin’.

The current allowable pension drawdown is anything between 2,5% and 17,5%. The “point of ruin” comes when you hit the maximum drawdown of 17,5%.

The 32 percent who are withdrawing at a reasonable rate will ensure coverage until death, but their pensions may will still be at a low-income level.

Just Retirement says its research on income strategies is for investment professionals and financial advisers – but it is a good reason for all pensioners to read it. (justsa.co.za/media/2635/just-sa_optimal-retirement-income-strategies_a-white-paper.pdf)

Just Retirement says it is very bad news for living annuitants surviving on a living annuity with:

• The current average drawdown from living annuities is 8,5%; and,

• This should be no more than 5,3% taking account of all ages and sexes.

In another research done by Alexforbes its was found:

• The initial drawdown rate was 6,42%;

• 77% of living annuity pensions had capital of less than R1,5 million; and,

• Nearly 25% of living annuity pensions had capital of less than R600 000 drawing a pension of more than 10 percent.

The calculations by Just Retirement are based on the table published by the industry organization, Association for Savings, and Investment SA (ASISA), on annual drawdowns of pensions from living annuities.

Number of years before your income will hit the point of ruin

Drawdown rate	Annual Investment Return Before Inflation, But After All Fees
	2,5%	5%	7,5%	10%	12,5%
2,5%	21 years	30 years	50+ years	50+ years	50+ years
5%	11 years	14 years	19 years	33 years	50+ years
7,5%	6 years	8 years	10 years	13 years	22 years
10%	4 years	5 years	6 years	7 years	9 years
12,5%	2 years	3 years	3 years	4 years	5 years
15%	1 year	1 year	2 years	2 years	2 years
17,5%	1 year	1 year	1 year	1 year	1 year

Just Retirement says that a 2,5% difference between a drawdown of 5% and another of 7,5% does mean a 2,5% difference. The difference between the two with an underlying capital of R1 million is 50% based on:

• 5% drawdown: R50 000 a year pension; and,

• 7,5% drawdown: R75 000 a year is a pension.

That is why 5% drawdown with a 10% return means your pension will only reach the ‘point of ruin’ after 33 years; and the point of ruin with a 7,5% drawdown will be 13 years.

Actuary Bjorn Ladewig, head of distribution at Just Retirement Life SA says the figures must also be judged against how long you are likely to live.

For example, a male age 65 has a 75 percent chance of living for 10 years, 50 percent chance of living for 18 years, a 25 percent chance of living for 24 years and a 10 percent chance of living for 30 years.

But bear in mind that these are averages - you could live for a lot longer than the average age of retirement for 65-year-olds.

To give you another idea of drawdown rates proposed by the regulator, the Financial Sector Conduct Authority (FSCA) has published draft tables for drawdown rates. FSCA has proposed an average drawdown rate and maximum permissible drawdown rates.

FSCA proposed ‘average’ drawdown.

Age	Drawdown
55	4%
60	4,5%
65	5%
70	5%
75	5,5%
80	6%
85	7%

FSCA proposed ‘maximum’ drawdown.

Age	Drawdown
55	6,5%
60	7%
65	8%
70	8%
75	8,5%
80	9,5%
85	11,5%

Of the 68% in the danger zone 34% are in the “risky zone’. The ‘risky zone’ drawdown at age 60 is between 5% and 7% of your capital. The 34% who are in the ‘high-risk zone’ start with a drawdown of more than 7% of your capital.

There is little help for those in the ‘high-risk zone’ unless they reduce their spending and drawdown rates.

Those people in the ‘risky zone” have another way out by using what are called ‘blended annuities’.

This is a blend between a living annuity and a traditional, guaranteed annuity sold by a life assurance company.

The simple reason is that the older you are the more you will receive as a risk-free pension in a traditional, guaranteed annuity.

Research done for The Ultimate Guide for Retirement in South Africa, showed the following implied yields - that is the amount you would receive at certain ages based on current annuity payments for a level annuity:

Age 55	R10 329 a month	12,4% implied yield
Age 60	R10 612 a month	12,7% implied yield
Age 70	R11 820 a month	14,2% implied yield
Age 80	R15 086 a month	18,1% implied yield

You do however need to check the implied yield for different types of traditional guaranteed pensions, including ones that make allowances for inflation and for any partner.

Ladewig provides an example of a blended annuity for a retired couple, with the male aged 75 and female aged 72. Their current drawdown is 7,5% from a living annuity.

According to the ASISA table their income will start reducing in 13 years, but their expected life is for a further 17 years on average.

If the couple switch to a blended annuity, with 50% invested in a guaranteed annuity, they will be able to maintain their pension for 33 years.

Ladewig says the advantages of a blended annuity are:

• An effective way of managing and reducing investment and longevity risk;

• Provides for a minimum guaranteed level of pension income;

• The guaranteed pensions can be used to cover essential expenses;

• A partner can protect the bother partner income or provide a minimum payment period;

• An inheritance is maintained on the living annuity portion; and,

• You are left with the option of when to switch. You can switch all or part of the living annuity to a guaranteed annuity at any time. However, once you have purchased the guaranteed portion it cannot be swopped back.

It is worth all living annuity pensioners at least taking a look at a blended annuity and speaking to a Certified Financial Planner about it.

There is a lot more detail on this in the book, The Ultimate Guide to Retirement in South Africa. For more information on how to purchase the book go to Buy Now on our website  www.retirementplanning.co.za

 

Related Topics:

https://retirementplanning.co.za/unpacking-investment-linked-living-annuities/

https://retirementplanning.co.za/advice-living-annuities/

https://retirementplanning.co.za/living-or-guaranteed-annuities-2/

https://retirementplanning.co.za/hybrid-annuities-retirement-fund-defaults-may-be-the-cheaper-options/

https://retirementplanning.co.za/hybrid-annuities-some-of-the-choices/