A simple question, a complex answer

STEVEN JONES

SOMETIMES THE simplest questions can result in the most complex answers.  For instance, take the following question received recently from one of our readers:

I have resigned and my provident fund is sitting on R273 000.  Can you please let me know what the tax percentage will be on this amount?

The reason why the answer is complex is because it depends on a number of factors including the tax-deductibility of contributions, whether or not the withdrawal benefit is transferred to another retirement fund, and whether or not the taxpayer has received any withdrawal benefits previously.

 Deductibility of contributions

The first aspect to consider is whether any contributions to the fund, such contributions now forming part of the withdrawal benefit, were allowed as a tax deduction.

Until the tax treatment of contributions to retirement funds was harmonised with effect from 1 March 2009, while personal contributions to pension funds were allowable as deductions (up to certain limits), there was no tax relief on contributions to provident funds.

In the case of employer contributions, while the employer can claim such contributions as a tax deduction, there is no taxable benefit on such deductions that results in an increased tax liability for the employee.  It thus stands to reason that such employer contributions would be taxed in the hands of the employee once they receive benefits from the fund, whether as a lump-sum payout or as an annuity (pension).

This means that based on the above example, if the withdrawal benefit was either from a pension fund or a provident fund started on or after 1 March 2009 and all employee contributions were allowable as tax deductions, the full withdrawal benefit would be taxable.

However, suppose that the withdrawal benefit was from a provident fund which the member had joined prior to 1 March 2009, to which the member had contributed a non tax-deductible R100 000—in this case, only R173 000 would be subject to tax.

 

Transfer of withdrawal benefits to another retirement fund

If a portion of the withdrawal benefit is transferred to another approved re-tirement fund, such portion would be transferred tax-free.  The reason for this is that since the receipt of the benefit is deferred to a later date (by virtue of it being transferred into the new fund), the tax payable thereon is effectively deferred as well.

If in this case the taxpayer had elected to receive in cash the R100 000 upon which they had not obtained tax relief, and transferred the R173 000 into an approved retirement fund, no tax liability would arise.  (It would of course be financially prudent to invest the R100 000 elsewhere).

 

Receipt of previous withdrawal benefits

The tax tables applicable to retirement fund withdrawal lump sums (see below, left) are ‘once-in-a-lifetime’ scales.

As will be seen more clearly from the calculation examples below, this means that while a first-time taxable withdrawal of R25 000 would be exempt from tax, a subsequent withdrawal of R25 000 would be subject to tax at 18%, being the rate applicable to the next band.

 

Calculation of the tax liability

The calculation of the tax liability on the lump sum would be determined as follows:

  • Scenario 1: The entire lump sum came from a fund that the member had joined on or after 1 March 2009 (i.e. they obtained tax relief on all of their own contributions).
  • Scenario 2: The lump sum came from a fund that the member had joined prior to 1 March 2009. The member contributions made before this date did not enjoy tax relief, hence would not be taxable when paid out.
  • Scenario 3: As in Scenario 2, except that this was not the first withdrawal made from a retirement fund by this member. The R25 000 tax-exempt amount is a lifetime limit, and can therefore only be claimed once.

Steven Jones is a registered SARS tax practitioner, a practicing member of the South African Institute of Professional Accountants, and the editor of Personal Finance and Tax Breaks.