Avoid drawing from your retirement savings to boost your budget, says Old Mutual

When times are tough, it can be tempting to consider tapping into your retirement savings for a cash injection. Though the new two-pot retirement system will give you access to a small portion of these savings, Old Mutual warns that using retirement money to fix your immediate cash flow problems could lead to a financially difficult old age. 

Millions of elderly South Africans spend their retirement years wondering if their money will see them through to their last days. Far too late, they come to understand that short-term convenience has had harmful long-term consequences, says John Manyike, head of financial education at Old Mutual. 

Implications of the newly launched two-pot retirement system

“The two-pot retirement system, launched on September 1 2024, consists of two portions. One-third of future savings will be credited to a “savings pot”, while two-thirds of contributions will go into a “retirement pot”. All the money in the savings pot can be withdrawn before retirement, but only one withdrawal per tax year will be allowed. Any unspent funds in the savings pot will be a member’s lump sum at retirement,” says Manyike.

“It may sound like a great solution, but tax will be payable on the withdrawn money. This tax will be equivalent to your normal tax rate. So, if you have a tax rate of 25%, and you access R10,000, Sars will want R2,500.”

Some retirement funds may also charge administration fees, further reducing the available amount.

Also lost when money is taken out early are the chances to benefit from potential fund growth, dividends, and interest that could be earned if the money stayed in the retirement account. For example, if R20,000 was saved for 10 years instead of being moved from a fund, compound interest would make it worth about R35,817. (For illustrative purposes for this calculation, an annual interest rate of 6% compounded annually was used.)

There are many other negative implications, says Manyike, such as

• Reducing retirement savings means your income might not keep pace with inflation and rising everyday costs, limiting your financial flexibility.
  
  
• A smaller pension will require you to tap into other sources of cash, such as personal savings and investments, making you poorer over time.
  
  
• Withdrawing too much from your retirement fund may force you to work longer to earn extra money to enjoy the retirement lifestyle you want. Many South Africans will struggle to maintain the same standard of living in retirement, even considering the two-pot system.
  
  
• Taking money out of a retirement account once a year as allowed can become a habit that rapidly depletes the “savings pot” and affects long-term financial security.
  
  
• Dipping into retirement funds in your 20s is manageable, but doing so in your 40s and 50s is more dangerous and could place your financial stability at risk.

Says Manyike, “One of the main rules for financial management is never to use long-term money to meet short-term needs. This is because using long-term savings to buy a car, for instance, sees the car’s value decreasing, while the benefits that could have been seen from the long-term savings increase are gone forever.”

Avoid the temptation of draining retirement funds by being money-conscious and following simple rules such as:

• Not living beyond your means. Too many South Africans spend more than they earn, which leads to debts eating into income and their being forced to borrow more money to stay afloat. You may feel envious of friends driving better cars than you, but thinking about the huge instalments, interest and insurance premiums they pay and what you have in the bank will make things better.
  
  
• Knowing the difference between what you want and what you need. Buying just what you need and avoiding splashing out on unnecessary luxuries will boost the money you have available for savings and investments. 
  
  
• Sticking to a budget. There are various formulas that people use when budgeting. For example, the 50-20-30 strategy would see 50% of your income spent on necessities, 20% on short- and long-term savings, and 30% on lifestyle choices. The skill lies in finding and sticking to a formula that works for you. 
  
  
• Planning, saving and investing for retirement when starting your first job. The earlier you start with financial planning, the cheaper it will be to achieve your goals and the higher the returns.
  
  
• Getting professional advice. A qualified, registered financial adviser will help you plan for the different stages of your life by assisting you to make informed decisions about your personal finances. Before making an early withdrawal from a pension fund, consult with a financial adviser for the full picture, so that the pros and cons can be thoroughly discussed. 

“Like most things that look appealing, initially it’s always worth understanding what terms and conditions apply,” says Manyike. “Taking a deep breath, getting the right advice and not rushing into that tempting short-term financial solution could become the best thing you’ve ever done.”

This article was sponsored by Old Mutual.