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Should living annuity withdrawal rates be more flexible?

Given the market turmoil caused by Covid-19.
An investment that loses a chunk of its value means either a lot less income per month or a lot less remaining capital and the risk that it will be depleted far earlier. Image: Shutterstock

In South Africa, anyone with a living annuity must withdraw a regular income of between 2.5% and 17.5% of their capital per year. This rate can only be adjusted once every 12 months.

For example, someone with R2 million invested in their living annuity could opt to withdraw 6% per year. That would be R120 000, or R10 000 per month.

However, as we have seen over the past two months, markets can make big moves very quickly. Someone who had R2 million invested at the start of 2020 may find they now only have R1.7 million, if they lost 15% in the market crash.

This could have an effect on this investor in two ways. If they set their income as a fixed amount, that would mean that they are still getting R10 000 per month. Their income would therefore have been protected, but they would now be taking out 7.1% of their capital, which would risk depleting it more quickly than they planned for.

If, on the other hand, they opted to allow their income to fluctuate, 6% of their capital is now only R8 500 per month. They would therefore be facing a significant drop in income.

Industry response

The complications this could create have not gone unnoticed by the industry. The Association for Savings and Investment South Africa (Asisa) is in discussions with National Treasury about allowing changes to withdrawal rates to mitigate these issues.

“Asisa and National Treasury are aware that the extreme market volatility caused by the Covid-19 pandemic may have left living annuity policyholders with high equity exposure in their underlying portfolios in a position where the drawdown level would need to be adjusted downwards to prevent eating into their capital base,” says senior policy advisor at Asisa, Rosemary Lightbody.

“There is also a concern for annuitants who may have experienced a sudden drop in income as a result of Covid-19 related market movements.”

This will impact retirees in different ways, since anniversary dates vary from one annuitant to the next. Someone who set their withdrawal rate in January is in a very different situation to someone who has to set a rate this week.

Using the above example, an investor might decide that they need to have an income of R10 000 per month, and therefore set their rate at 7.1%. However, if markets deliver a strong recovery and their capital increases back to R2 million, their income would grow to R11 800 per month.

If they don’t need all of that income, shouldn’t they be allowed to reduce it? It would be far better for the sustainability of their investment if they had the ability to make that decision.

Looking for options

“Effectively, we want to ask for flexibility because the capital values sitting in living annuities can change so much,” says Vickie Lange, head of research, best practice and academy at Alexander Forbes.

As she points out, there are two broad categories of people who might need to adjust their rates.

“Certain annuitants would prefer a lower draw rate right now because they don’t want to draw too much out of their living annuities and risk running out of capital,” she says. “Then you have others that might be in a situation where other things have happened and they can’t live off the current draw rate. For example, if someone has a living annuity and their spouse was still working, but their spouse got retrenched. So now you have two people that rely on the income from the living annuity.”

The obvious question is how allowing adjustments could be done, both from a practical point of view and to maintain some level of sensible regulation.

“Changing your income more frequently in most instances is a bad thing,” says Warren Ingram, executive director at Galileo Capital. “In this instance it’s a good thing. But does that mean that you change the law now to make it possible in any situation, or how do you regulate it? My concern is that at least when it can only be done once a year, people don’t start to make bad decisions in normal market conditions.”

The correct approach

A potential solution Ingram suggests is that annuitants should be able to reduce their withdrawal rate at any time. There is, after all, never any harm in lowering the income they are getting.

They should however only be able to increase their rate once a year, or under specific conditions. What those conditions would be, however, will always be contentious.

“Where would you draw the line?” asks Lange. “Who is the one to make that judgement call?”

There is also the question of executing these changes.

“Practically it is not an easy thing to do,” says Craig Gradidge, executive director at Gradidge Mahura Investments. “The product providers would incur significant spend to modify their systems to allow this. They would also need to staff up or restructure their administration teams to handle the additional workload.”

This would place pressure on the providers. However, as Lange points out, Asisa would not have approached National Treasury if this couldn’t be done.

“The industry wouldn’t be requesting something like this if it wasn’t practical from an operational systems perspective,” she says.


There is also the legal question of getting the necessary amendments to make this possible.

“Asisa understands that National Treasury, in consultation with the Financial Sector Conduct Authority [FSCA], is currently looking at options aimed at assisting living annuity policyholders as a matter of urgency,” Lightbody says. “Solutions would require an amendment by the Minister of Finance to Government Notice 290 issued under the Income Tax Act.”

Proving some sort of a solution, however, seems imperative.

“Treasury should make a concession and allow retirees to amend their income amounts out of cycle,” says Gradidge.

“The current crisis should hopefully trigger a broader review of annuity products so that retirees have options in future crises.”

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Patrick, thank you for taking up this matter and for the article.

Some of the respondents you quote, try to make an amendment to Notice 290 and its effect more complicated than is actually the case – i.e.
a) the administration of Living Annuities are all done programmatically on sophisticated IT systems and some latitude or flexibility as to changes of the pension income rules will definitely not bring about additional workload or administration costs. If one can change your regular investment contribution towards a unit trust or ETF online as often as you require, the payment of an annuity pension is just a reverse debit order transaction. Confirmation letters, etc are standard concepts and are systematically produced; as well as (nowadays) mostly transmitted electronically.
b) Government Notice 290 in its entirety do not even comprise half of one single A4 page. Treasury always drafts such practice notices after consultation with the relevant industry and the minister or his deputy then signs it into operation. That is the extend of Government approval.

Some senior managers at these big financial companies still think they can feed clients any nonsense as sweet-cake and the customer won’t be any wiser. That’s the attitude that must cease and which has caused clients to move away to market-disruption new-comers by the droves.

Lastly, if adjustment of pension income can be lowered let’s say at least four times per year (any month) and increasing the pension annuity at least three times per annum (again any month) that should be sufficient to manage extra ordinary circumstances like the current century high market decimation or some personal family crisis. It’s really not rocket science.

We retirees need to be able to adjust the rate at least 4 times per annum. This would give us adequate flexibility to cater for the unforeseen events !!!!

Im confused. Why isn’t it possible to adjust it for the next debit run? Is it an asset liability matching issue and sale timing?

“The product providers would incur significant spend to modify their systems to allow this. They would also need to staff up or restructure their administration teams to handle the additional workload.”

Perhaps it’s time the “industry” was introduced to computers, then?

Patrick, what happened to my Comment to this article – it’s just missing from my Comment View box. If only not-approved, I can accept, but just deleted, aikona.

After 11 years in a LA , I would have been better off and less stressed
had I invested in a fixed deposit from day 1 , even taking the Taxation thereof into account .
On the other hand Ive created Employment and all my LA Advisors seem happy in their BMW,s !!

Even if you specify a percentage draw-down rate, that draw-down rate is converted to a rand amount at policy anniversary date, and you will keep receiving that income for the rest of the year. The income does not fluctuate with the portfolio value.

Solution: if people want to reduce their effective draw-down, they can simply save a portion of their income into an RA (to get the tax break) and then buy back into the market, at around the same level that they were selling at.

The RA can be added back to the living annuity at a later stage.

CV 63 : Why more people dont do this is beyond me: You buy an RA in Feb , get the Tax break & convert into an existing LA in March . Works like a Charm .

I don’t think Mr Gradidge’s arguments are sound for not building in such flexibility in their systems not for just now but would cater for future disaster situations which will undoubtedly re – occur

With my living annuity I can select a fixed amount per annum.

I find the best thing to do is draw income from an income fund. This gives between 7 and 9% return on the remaining funds. The income fund may be topped up by selling equity unit trusts from time to time ensuring that 2 years of income is in the income fund. This should allow you to weather market dips and benefit from market highs.

I would like to see the minimum reduced from 2.5% to zero. If you are still working there may be no need to draw income.

I think both the Regulators and Asset/Fund managers are totally ‘’out of touch’’ with the risk that pensioners with Living Annuities are currently exposed to.

I don’t know how much the Pension Fund Act (Regulation 28) has changed ( pre-retirement) during the last 20 years – with regards to the types of investments and the balancing or the allocation, of the investments, etc, that a Pension Fund can make.
During my employee Trustee days – the types of investments were – Shares up to a maximum of 75 %; Property Investments up to 25 %: Property and Shares combined up to 90 %; Cash No Limit (but not more than 20 % with one institution); assets outside SA 15 % (I know that this has changed significantly but it still needs SARB approval for bigger investments)
The day you become a pensioner (retire) and you leave the protection of your employer pension fund – you are on your own and you are confronted by very limited choices (especially with regards to RA’s). Almost no R&D was done by the ‘’pension fraternity ‘’ in the retirement market for many moons!
When this happens, there is quite a lot of information to consider and I think in lots of cases there are no tangible detailed financial available and or planned, to give the pensions a better understanding of the risks that they run when choosing Living Annuities.
There are only really two main products that can provide you with an income from your retirement savings.
The first is an insurance-type product – the guaranteed annuity and the second is an investment-type product called a living annuity. The moral of the story is, each of these meets different needs so you will need to decide which will best meet your particular goals.
A guaranteed annuity secures you a pre-determined income for the rest of your life (there are different types of guaranteed annuities). A living annuity provides pensioners with ‘’flexibility to choose’’ their income each year (subject to regulatory limits) and where their money is invested.
Problem is, this type of product in the shorter run is not suited for pensioners if and when the market crashes – computerized “program trading” strategies swamped the market and contributed to the Black Monday crash of Oct. 19, 1987, the market dropped 23 %.
The fall in the stock market helped trigger the Long-Term Capital Management crisis. The dot-com crash occurred in the NASDAQ starting in March 2000. The tech index reached a peak of 5,048.62 on March 10, 2000. On April 3, it fell 7.6 percent, or 349.15 points.
In 2007 during the financial market crisis financial crisis erupted into a full-fledged panic and world markets had fallen to its lowest levels since 1997. And now we have the Corona Virus crash ….
I have worked in the financial market throughout my working life and refuse to accept that this should be happening to pensioners! The risk-reward ratios of these products are not suitable for pensioners- period!

End of comments.





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