Cashing out your retirement fund early on resignation or dismissal? Big mistake. Big. Huge.
Sometimes, quoting an early 90’s classic is truly the best way to get the message across. And even though this topic might seem just as passé as Pretty Woman references, it remains vitally important because too many individuals still fall into the trap of cashing out their retirement funds early. By doing so, they lose hundreds of thousands in the process – not to mention the compound interest that they could have earned.
We believe in the long-term survival of your hard-earned savings, and that is why Cornerstone Employee Benefits will always do our best to give you advice that will ensure the best outcome for you and your retirement funds. With this ethos is mind, let’s look at a couple of things to consider before cashing out your retirement fund early.
Beware of the temptation
If you have been working with one company for a long time, chances are that you have a hefty retirement fund built up. If, for whatever reason, you decide to leave the company, you will have the opportunity to either cash out your retirement fund or preserve it. For most of us, the temptation of a few hundred thousand in our account is immensely powerful, but it is imperative that you refrain from giving in to it.
As much as that money can change your life now, it will have a much bigger and more positive impact when you retire with it. Remember, it took you years of work to save that much and if you use it all now, you’ll never be able to make up for lost time and you’ll most likely end up with too little to retire with. Think of your future, the future of your loved ones and rather opt to preserve your funds for those golden years, and acquire professional financial advice doing so.
The tax implications can be massive
One of the biggest downsides to cashing out your retirement fund early, is that you’ll lose a massive part of your hard-earned savings to tax and penalties. Depending on the amount you choose to cash out, you can pay up to 36% of the total cash out.
For example, if you have R700 000.00 in your retirement fund and choose to cash all of it out upon resignation or dismissal, you will pay R114 300.00 plus 27% of the balance, a further R10 800.00. This means you will end up with only R574 900.00, meaning you’ve lost almost R130 000.00 worth of retirement savings! It’s simply not worth it. And this is the best case scenario, because here the assumption is made that you still have the once in a lifetime R25 000.00 tax free deduction.
Below is an updated table of the tax implications for each bracket:
|Taxable income from lump sum benefits||Rate of tax|
|0 – R25 000.00||No tax payable|
|R25 001.00 – R660 000.00||R0 plus 18% of taxable income exceeding R25 000.00|
|R660 001.00 – R990 000.00||R114 300.00 plus 27% of taxable income exceeding R660 000.00|
|Exceeding R990 000.00||R203 400.00 plus 36% of taxable income exceeding R990 000.00|
Source: www.wellspent.co.za, https://bit.ly/2xhqXGR
You’ll lose out on future compound interest
The power of compound interest has been proven time and time again. In short, compound interest means that when you earn interest on your capital, you’ll continue to earn interest on that interest as well. This creates a type of snowball effect, increasing the rate at which your investment grows. To help illustrate the long-term possibilities, you can find an easy to use compound interest calculator here.
If you cash out your retirement fund early, you’ll lose out of any future compound interest, “costing” you hundreds of thousands of Rands in the long run and halting your entire retirement fund’s growth.
Contributing to a retirement fund is a great way to build wealth for the future, but it’s vital that you manage your funds properly to ensure that it keeps growing and evolving to your needs. Cornerstone Employee Benefits have dedicated years to perfecting the management and structuring of pension funds and provident funds. Contact us today if you have any questions about your retirement savings and remember to follow us on Facebook and LinkedIn for more useful and interesting content.