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Should you retire and get the pension, or resign and do it yourself?

Reader’s question answered.

Cape Town – In this advice column Carl van der Berg from Alexander Forbes answers a question from a reader who is nearing retirement age, but is thinking of resigning to claim different benefits from the Government Employees Pension Fund (GEPF).

Q: I am a school principal and will end my career at the end of next year. I will have had 41 years of pensionable service and have accumulated over R5 million as my resignation benefit.

However, the way this is paid out will differ considerably if I retire at normal age, or if I resign from my position before then.

Should I retire, I will receive a monthly pension that will increase by CPI every year and take a lump sum gratuity benefit of over R1 million. In addition, my medical aid subsidy of around R1 000 per month will continue, my 120 days of capped leave due to me will be paid out and should I pass on, my wife will receive 50% of my pension until her death.

Should I resign, however, I will be able to transfer the full resignation amount into a preservation or other fund. I will, however, forfeit the monthly medical aid subsidy and the capped leave due to me will not be paid out. The remaining capital will accrue to my estate when I pass on.

The majority of financial advisors I have spoken with seem to believe that I can do better monthly if I resign and they manage the investment.

My question is thus: “Do I retire or resign?”

A: You ask a very important question, and one which needs a good answer. The public servants employee roll is growing, so there are bound to be more and more people in a similar situation to you needing honest advice.

A scan of online resources, which might help in answering this question, shows little more than warnings about the dangers of resignation. In a situation such as this, however, you do not need an empty warning, but rather to carefully consider all aspects to make the best possible decision.

Your question speaks to a number of themes which I will attack one at a time. It is probably a good time to say that some of the most important information required has not been provided. Information gathering is one of the major starting points of financial planning, so this does compromise the ability to answer the question of “what should YOU do”.

You are your own unique person with a unique family situation and your own subjective core beliefs. It is important to factor such information into a financial plan to ensure that you remain comfortable with your decision from start to finish.

The ‘opportunity cost’ of resigning rather than retiring

You have mentioned two major advantages of not taking early retirement: the additional leave pay and the medical aid subsidy. If you resign, an external service provider needs to adequately compensate you for both of these cash flows.

With medical costs set to probably experience double-digit inflation, assistance in meeting these costs should not be forfeited without careful consideration.

Succession planning

You need to answer the following question: “Is it more important for you to keep the accumulated capital in your estate permanently, or to rather have income for you and your wife until death?”

When retiring from the GEPF, you will essentially be handing your accumulated capital back to them, for the promise of income until death. There is a risk in doing this; if you and your wife were to both die soon after retirement, the income payments would cease and there would be no capital remaining to be given to children or beneficiaries.

This is, however, not a risk that you would ever need to face yourself. After all it is your own retirement, and you should be making decisions based on what is the best for you, rather than trying to profit an extended family. Should you feel responsible for providing capital to your children, or if you anticipate not living very long, then resignation is something to seriously consider.

The sometimes biased advice of financial advisors

Even with layers of regulation meant to protect clients from poor advice, remember that most of the advice out there earns its keep through a commission-based incentive. I am therefore not surprised that the majority of the advice you have received has been to resign from the fund. I am guessing that those advising you would have also wanted to handle the re-investment for you with a healthy upfront fee attached.

Remember that the advice you have received could have been biased, and you would need to factor this into your decision.

Inflation

We have mentioned a few risks to be aware of so far, but your number one enemy is inflation, particularly in a country like South Africa. We have recently been downgraded by some major ratings agencies and there is the risk that inflation could severely affect your retirement plan.

You need to sit down and look carefully at your budget and consider if your own “basket of goods” is likely to have a high inflation rate, or if CPI increases are going to be enough for you. Although these increases are very reliable and dependable, and create an element of safety, you need to establish if your budget can accommodate inflation-only increases.

If not, then you would either need to bank the additional income received from the initial income (retirement option) or to live on a very low drawdown rate in a living annuity (resignation option) to keep the capital protected.

Capital risk

If inflation is the biggest threat to your retirement plan, then being in a separately managed annuity can pose a few challenges. The biggest of these is that to overcome inflation over an extended period of time you would need to make use of investment assets that can overcome this risk, such as property and equity.

This however introduces an additional element of volatility risk, which is often not advisable for the pensioner as it can cause the invested capital value to fluctuate.

If you accept this point then you could go on to argue that there is no way of escaping capital risk. You either accept the risk of a loss of capital through you and your wife both passing away soon after retirement (assuming you retired in the GEPF), or you resign and place your capital at risk, although in a completely different way.

Summary

I have mentioned a number of the most important factors to consider. Ultimately, you would need to do a thorough analysis and look at the income that could be paid to you from the fund versus the equivalent income that could be paid to you from a different insurer who will match the same income increases. It is very difficult to replace the income coming from the GEPF, and therefore factors such as leaving money to your children would have to be very important to you for you to choose resignation rather than retirement.

*Carl van der Berg is a financial consultant with Alexander Forbes Financial Services.

If you have any questions you would like answered by financial planning experts, please send them to editor@moneyweb.co.za.

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