Options at retirement

Q: I will retire at the end of October 2016 from government service. I have the option of a retirement gratuity of R1.2 million plus a monthly pension of R 27 414 for life, or a resignation benefit of R5 047 648.

The downsides of taking the annuity option are that when I die the monthly pension that will go to my wife will halve; and that when she dies, the pension stops altogether and nothing will go to our children. I’m also worried by the current political landscape in South Africa whether I can have peace of mind with regard to how the GEPF will be managed in future.

My question is this: If I rather take the resignation benefit of R5 047 648, can I obtain a monthly income comparable to the monthly pension of R27 000 plus the yield on the investment of the R1.2 million gratuity through investing this amount?

The reader belongs to the Government Employees Pension Fund (GEPF), which is what is called a defined benefit fund. The retirement benefits are therefore defined with regard to the reader’s salary at retirement and the length of service at their employer.

Let us consider the two options that the reader has presented in more detail:

Receiving an annuity for life

The reader will receive an annuity, for life, which begins at R27 414 per month. On death, the spouse would continue to receive 50% of this annuity for the remainder of her life.

Pension increases are also usually granted annually by the GEPF in line with their policy which targets 100% of CPI. The reader is also entitled to a gratuity lump sum at retirement of R1.2 million.

Under this scenario, the GEPF, assumes the investment risk. In other words, the member will continue to receive their pension, irrespective of how the underlying investments perform.

The GEPF also assumes the longevity risk, or the risk of the member and their spouse living longer than expected. As an extreme example, if they both lived to 120 years, they will continue to receive their pension. On the other side of the coin though, if they both pass away shortly after retirement, no further payments will be made and any children dependants will not receive any lump sum payment.

Taking the lump sum and investing it

The reader states that they are entitled to R5 047 648 as a resignation benefit. For purposes of this comparison, the impact of tax on this amount has not been considered as this could vary by individual.

Let us assume that this money will be invested into a living annuity-type structure in order to provide a retirement pension. Under this scenario, the lump sum is invested and a pension is drawn from this balance for as long as the balance is positive.

To put it simply, this operates similar to a bank account. The account increases with investment returns and reduces by any amount that the reader withdraws in the form of a pension.

It is important to realise that the reader will be assuming both the investment and longevity risk under this scenario. Poor investment performance will impact on the amount of pension that the reader may be able to withdraw. Additionally, if the capital is fully eroded while the reader is alive, no further pension will be payable. However, on death, the balance of the account can be paid out to the spouse or other dependants.