19. What to do about the declining fixed deposit rates

Question  

I have a fixed deposit of R1 million that will be maturing shortly.  As interest rates have declined , I will not be renewing it. 

I am 79 year old widower and am looking for an income to supplement my current pension. What would you recommend? 

Answer  

There are many people in a similar position to you.  The fall in interest rates has caused problems for retired people who use fixed deposits to supplement their pension.  The income that many drew from their investments has almost halved.

 There are a couple of options open to you.  I will highlight a couple of them. 

Life annuity 

A life annuity is like a traditional pension. You pay a lump sum of money and you will receive a monthly income for the rest of your life. 

They are quite flexible but you need to specify upfront what type of annuity you would like.  You can get a level one that does not increase, or one that increases by a particular percentage or one that increases with the CPI each year.  You can also get one that pays a spouses pension. Each of these benefits come with a cost which will mean that you will starting pension will be lower if you have additional features.

 Life annuity rates generally improve when interest rates decline so this is certainly worth looking at in these times of low interest rates. 

You can currently get a life annuity which will pay you around R12 500 a month for the rest of your life. This is a great option if you are looking to improve your monthly cash flow and are not too concerned about leaving an inheritance to your family. 

If you wish to leave something to your children, then you should consider adding a guaranteed payment period to this investment. The monthly payments would be lower you can add a guarantee that should you die within 5, 10 or 20 years, the payments would be paid to your children until that period is up. 

An alternative is to take out a life annuity that pays out your initial investment when you die.  In this instance the monthly pension that you would get would be R7 200 a month for the rest of your life with R1 000 000 being paid to your beneficiaries upon your death. 

Income plan 

As this is not money that comes from a pension fund, you cannot take out a living annuity.  You can, however, take out a discretionary income plan.  

This which works a lot like a living annuity where you invest an amount of money and draw a monthly income.  The idea is to draw less income than the investment growth.  If all goes according to plan, this investment will give you and income and leave a decent inheritance. 

An income plan is a lot more flexible than a living annuity as you can change your drawdown rates at any stage. You are also able to withdraw lump sums from this investment whenever you wish. This makes it extremely attractive for pensioners who sometimes have unplanned lump sum withdrawals when life gets in the way. 

With the income plan you get to choose your investment portfolio.  Given your age and that you are looking to draw an income form the investment, I would recommend that you get your adviser to select a portfolio that is designed to protect capital and provide an income. 

Insider tip 

As you are over 55, retirement annuities can be used to reduce your income tax, improve your wealth and reduce your estate duty. 

If your cash flow allows it, I would recommend that you invest some of your income into a retirement annuity.  If you are paying tax at 30%, an investment of R10 000 into an RA would only cost you R7 000.  Seen differently, R7 000 would give you an RA investment of R10 000 which is the equivalent of an immediate 42% return. 

If you need to supplement your income, you can mature the RA at any stage without penalty, provided you bought a new generation product.  If you do not need the cash, you can leave the investment to grow in a tax-free environment.

 Retirement savings fall out of the net for estate duty.  It therefore makes sense for someone of your age to move some of your money from the discretionary to the retirement category.  Estate Duty is currently paid at a rate of 20% so you can improve the financial wellness of your family by planning cleverly. 

Kenny Meiring MBA CFP ® is an independent financial adviser. You can contact him on 082 856 0348 or at Financialwellnesscoach.co.za Please send your questions to kenny@financialwellnesscoach.co.za