The Two-Pot Retirement System

On 29 July 2022, National Treasury released the 2022 draft Revenue Laws Amendment Bill for public comment until 29 August to introduce the Two-pot System for retirement savings which had been flagged in the national budget. In short, the Two-pot System would allow members of retirement funds to access a third of their pension savings once a year in the event of an emergency, while preserving the other two-thirds for retirement. The planned implementation date for the Two-pot System is 1 March 2023; although it will probably take a bit longer to implement the necessary changes to the funds’ rules and systems, we would expect a period of education for members of retirement funds.

The Two-pot System enables the restructuring of retirement contributions into two 'pots' or accounts. One account can be accessed at any time; the other account will not be accessible before retirement and must therefore be preserved until retirement. The proposal is that one-third of any future contributions should go into the first accessible retirement fund account (which is accessible once a year); the other two-thirds should go into the second account that must be preserved until retirement.

The rationale for the new system is that allowing access to onethird of future contributions at any time and removing the ability to withdraw the full amount upon resignation, will eliminate the incentive of employees to resign from their employment to gain access to retirement funds. The current thinking is that greater access and flexibility could also encourage more savings into retirement funds. The Two-pot System spreads the availability of the lump sum that would usually only become available upon retirement over the lifespan of the member so that it is accessible when it is most needed.

Importantly, the withdrawing member would incur the cost of withdrawal so that non-withdrawing members do not subsidise the cost of those drawing. By combining a greater level of access with the restriction that two-thirds of contributions must remain invested in the preservation account until retirement, a larger amount could thus be preserved in the retirement system compared to the current situation. This system should increase the amount of assets available for the individual when they retire and increase replacement rates in retirement.

In practice, there are three parts to this system:

• (1) The Vested Pot (includes amounts accumulated before the implementation date)
• (2) The Savings Pot (which is accessible before retirement); and
• (3) The Retirement Pot (where two-thirds of contributions after 1 March 2023 are to be preserved until members’ retirement date)

The existing retirement funds will be adapted to accommodate the Two-pots System, i.e. existing members of funds will not have to re-enrol to gain access. Each retirement fund will have to amend its rules to incorporate the system. Note that the system is not retrospective; thus, the new rules will not affect the existing savings and contributions made prior to the implementation date.

Importantly, all contributions to the new system will benefit from the tax deduction subject to the existing limits.

Contributions will remain deductible up to the specified caps, but any contributions that are more than 27.5% of taxable income or R350 000 a year can only flow into the Retirement Pot.

All contributions and growth accumulated before the presumed implementation date of 1 March 2023 will have to be valued at that date immediately prior to the implementation to enable vesting of rights. The conditions that were attached to these contributions will remain in place.

The accumulation of the Savings Pot together with the Retirement Pot will start from 1 March 2023. It is important to note that any amount withdrawn from the Savings Pot will be included in the member’s taxable income for that year and be taxed at the member’s relevant marginal rate. Only one withdrawal from the Savings Pot can be made per year and the minimum withdrawal amount is R2 000. Each year the member may withdraw all or part of the amount accumulated in their Savings Pot.

Before retirement, it is possible for a member to withdraw funds from the Vested Pot, which will be taxed according to the retirement lump sum tables that are more favourable to tax rates (a maximum of 36%) compared to marginal tax rates (a maximum of 45%).

Although no amounts can be transferred from the Retirement Pot before retirement, transfers can be made into it from other pots (i.e., from the Vested Pot or the Savings Pot). Amounts from Savings Pots can only be transferred to other Savings Pots. The Retirement Pot and the Savings Pot must be held in the same retirement fund (for example, a member cannot hold the Savings Pot in one employer’s fund and the Retirement Pot in another employer’s fund.)

Upon having reached retirement age, the member can add the Savings Pot to the Retirement Pot to purchase an annuity, or can withdraw the full amount in the Savings Pot as cash which would be taxed according to the retirement lump sum tables. Fortunately, as noted, the lump sum tables have more favourable tax rates compared to marginal tax rates that apply before the member retires. Upon retirement, the total amount in the Retirement Party must be used to purchase an annuity, and various options are available. The minimum amount that can be used to purchase an annuity is R165 000; amounts less than R165 000 in the Retirement Pot can be withdrawn as a lump sum.

Naturally, there are concerns about unintended consequences such as potentially large numbers of members withdrawing annually, which could create an additional burden on administrators and potential delays in paying out. Again, the concern has been raised that this system will reopen the door to the practice of pension-backed lending.

Conclusion
It seems like the Two-pot System for retirement will provide greater flexibility and access to retirement savings for individuals, while still preserving a significant portion of their savings until retirement. The system will require some changes to existing retirement funds and it will be important to educate members on how to use the system effectively. It will also be important to monitor potential unintended consequences, such as a potential increase in the number of withdrawals and delays in payouts. Overall, this system has the potential to increase retirement savings and improve replacement rates in retirement for individuals in South Africa.