Retirement Annuity or TFSA – the best vehicle to save for your retirement

While you may be thinking about saving for your retirement, it can be difficult to decide which savings vehicle to choose. Some people are happy putting their money in their tax-free savings account (TFSA) while others lock it in a retirement annuity (RA).

Justmoney finds out why putting your savings in an RA is a better option than keeping it in a TFSA.

Tip: Start saving for retirement now by clicking here.

First let’s find out what the differences are between these two.

Tax-free savings account

According to the National Treasury, the aim of a tax-free savings account is to encourage individuals to save – something that will reduce their financial vulnerability and reliance on debt when unexpected events occur.

The second aim is to increase the overall level of savings in the economy, which would bring wider macro-economic benefits.

There is a limit on how much you can contribute. With a TFSA you’re only allowed to contribute R33,000 per tax year and R500,000 over the lifetime of your savings.  Even if you save in different accounts – which you’re allowed to do – if you exceed the limit, you’ll pay a penalty tax that's equal to 40% on your excess contributions.

TFSAs are flexible. You can access your savings and investment within seven business days after you request it. In the case of fixed deposits, early withdrawal penalties are allowed, but they may not exceed the amount specified in the draft regulations.

TFSAs are tax-free. You pay no tax on the interest, capital gains, or dividends you earn, or on withdrawals, says Carla Rossouw, tax lead at Allan Gray.

According to Rossouw, withdrawals from your savings can’t be replaced. If you take money from your savings, you will never be able to replace it. Therefore, you will have less than the limit which is R33,000 per annum.

READ MORE: What are the rules of the tax free savings account?

Retirement annuity

Your contributions to a retirement annuity are tax deductible. You qualify for tax deductions contributions of up to 27.5% of your taxable income or remuneration per year, to a maximum of R350,000.

“You can generally only access your money when you retire (after age 55). In addition, you can only take one-third of the amount as a cash lump sum,” says Rossouw.

She says the rest must be used to purchase an income-bearing product in retirement, such as a living or guaranteed life annuity.

When you retire, you pay a lower tax rate than you did while you were working. In addition to this, the interest and capital gains from your investment will not be taxed.

According to Rossouw, retirement annuities have no maximum contribution limits. You can invest as much as you like.

So, the decision to save in a retirement annuity or TFSA for your investment lies at your discretion. However, the restrictions that are put on your yearly contributions for a TFSA can hinder you from achieving the kind of retirement you want. Moreover, having access to your money when you want could also make it hard to reach your retirement goal if you’re not disciplined enough.

According to Rossouw, incorporating retirement funds and tax-free investments into your long-term investment strategies can improve your chances of retiring comfortably and increase the amount of financial flexibility you have before and at the point of retirement.

Rossouw says that the incentives on both TFSAs and RAs can be very attractive, particularly when you look at the value of compound interest.

“The longer you leave your money invested, no matter the product you choose, the harder compound interest can work for you.”

If you believe that an RA is the best vehicle to save for your retirement, click here.

*As from 01 April 2020, you'll be able to contribute up to R36,000 per annum in your TFSA.