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.

Comparing the two

If we consider this reader’s particular circumstances, in order to match the R27 414 per month pension from the GEPF, they would need to draw 6.52% per annum from the living annuity balance.

For illustrative purposes, we assume that the account balance would grow at 10% per annum and that the reader would require the annual pension to increase in line with inflation at an assumed 6% per annum. Under these assumptions the investment growth on the account will exceed the pension being drawn for around nine years. After that the capital will start to be depleted and will be fully eroded after about 22 years.

Assuming that the reader is 60 years old, it is estimated that the capital will be fully eroded by age 82. If, on average, the account grows by less than 10% per annum, this amount will be eroded sooner. Thereafter, no pension will be available. This illustration demonstrates the investment and longevity risks the reader faces.