Reaching retirement is a milestone, but it also brings one of the most consequential financial decisions of your life: how to convert your accumulated retirement savings into a sustainable income. South African law requires that at least two-thirds of pension and provident fund savings be used to purchase an annuity. The remaining one-third can be taken as a cash lump sum (subject to tax). Understanding the two main annuity options is essential.
A guaranteed annuity, also known as a life annuity, provides a fixed income for life. The insurer takes on the investment and longevity risk, guaranteeing that you will receive a set income regardless of how long you live or how markets perform. Some guaranteed annuities include annual escalation clauses, either at a fixed percentage or linked to inflation, to help your income keep pace with rising costs. The trade-off is that once you purchase a guaranteed annuity, your capital is transferred to the insurer. There is typically no remaining capital to leave to heirs, unless you select a joint-life option or a guaranteed payment period, both of which reduce the initial income.
A living annuity gives you control over your investment portfolio and the flexibility to choose your annual income, which must be between 2.5% and 17.5% of the investment value. This means your income can vary from year to year depending on market performance and your chosen drawdown rate. A drawdown of 4% to 5% per year is generally considered sustainable over the long term, but this depends heavily on your investment returns and life expectancy. The major advantage of a living annuity is that any remaining capital on your death passes to your nominated beneficiaries. The major risk is that you can outlive your money if you draw too much or if markets underperform.
For many retirees, the choice is not binary. A blended approach can offer the security of guaranteed income to cover essential living expenses, combined with the flexibility and growth potential of a living annuity for discretionary spending and legacy planning.
Factors that influence the right choice include your total retirement capital, your monthly income needs, your health and life expectancy, whether you have other income sources (such as rental income or a spouse's pension), and how important it is to leave an inheritance.
This decision should not be made in isolation. It affects your tax position, your estate plan, and your quality of life for potentially 20 to 30 years. Working with a qualified financial planner ensures you consider all the variables and make an informed choice.
Approaching retirement and unsure which annuity option is right for you? Contact our team for a personalised retirement income analysis.