Due to my divorce, my former spouse was paid an amount of R182 726.25, which is debt on my pension with the amendment to Government Employees Pension Fund (GEPF) law, which institutes the clean-break principle in respect of divorce debt. I have two options available to me and must make a choice soon.
- The ‘debt’ approach – having divorce debt, or
- The ‘reduction in service’ approach – where the pension fund deducts the debt in line with the amount of service/working years, which currently comes to two years, nine months of service.
- I also have the choice of paying off the debt while working.
Providing a definitive answer in the absence of key information is somewhat tricky. Information such as your age and income would be of great assistance in providing more comprehensive advice. Essentially, however, the choice that you have been given is a fair one to which there is no right or wrong answer.
Each person’s individual circumstances will influence the decision-making process, so please consider this response in the context of your personal situation. There is no doubt that, with the benefit of hindsight, one of these choices may reveal themselves to be more beneficial than the other, so right now it is important to make a decision that is as well-informed as possible.
To begin with, let’s think of the debt as a loan on which the GEPF will essentially charge you interest.
The rate at which interest is charged is the repo rate plus 3%, which is currently a rate of 7.25%. In essence, you have borrowed money from your fund at a rate of 7.25% linked to the repo rate which, on the face of it, is a fairly favourable loan. You have indicated that you have the choice of repaying the loan in one of the following three ways:
- Repay the loan on a monthly basis, the assumption being that this would be from your after-tax income;
- Repay the loan from your one-third gratuity cash portion at retirement; or
- Repay the loan be agreeing to a reduced pension, otherwise referred to as a ‘reduction in service’ approach.
Before making the decision, there are a number of factors that need to be considered:
- Firstly, divorce debt will reduce your lump sum gratuity payment, which may create liquidity challenges for you later in your retirement years. Without having any insight into your retirement position, we are not able to advise you on this and it may therefore not be the most appropriate option.
- Reducing your service means a lower pension income and therefore lower taxation rates. This also needs to be factored in to your overall financial plan as there could be some tax planning consequences in following this approach.
- A larger gratuity will give you more liquidity with options to diversity offshore should you wish to do so.
- Longevity will have an impact on your decision because the longer you live, the better off you will be for having chosen the loan repayment option as you will have enjoyed a full pension for many years.
- Depending on your discipline when it comes to finances, you may be better off choosing to settle the loan so that you can enjoy a larger pension.
- Should you elect to choose a reduction in service this would result in a larger gratuity and therefore a larger financial legacy for you to bequeath.
- Bear in mind that it is important to have a holistic view of your entire balance sheet before making this decision, and it is not one that can be taken in isolation.
- Your retirement objectives will also influence your decision. If you plan to travel extensively during the earlier part of your retirement, you will need to give consideration to the most appropriate funding mechanism.