Endowments can be used to top up your retirement income without paying tax on the proceeds, Tony van Niekerk, assistant general manager sales at Sage Life, says.
The income that you draw from a matured endowment is tax free so you can use it to supplement your retirement income without being pushed into a higher tax bracket at that stage.
You do not pay direct tax on the proceeds from an endowment, because the life assurer from which you buy the endowment pays tax on the build up of the policy on your behalf, Van Niekerk told the NIB/Saturday Argus Investor Club recently.
You can invest in an endowment in a lump sum or single premium, which is more popular nowadays, or you can invest on a regular basis, for example, monthly.
Traditionally endowments included risk benefits (life and/or disability cover) but the trend today is to segregate risk benefits from investments, Van Niekerk says.
This is important, he says, because if you want to change your investment because of, for example, poor performance, you don't want to lose your risk benefits.
Another advantage of an endowment is that you can make loans and withdrawals against it. You are limited to one loan and one withdrawal in the first five years but after that you can make unlimited withdrawals and loans.
You can also use your endowment as surety against, for example, a loan from a bank.
When you invest in an endowment you are protected by the Long Term Insurance Act. The act includes guidelines on, for example, where a company may invest the money you put into an endowment. A portion of the money you invest in the endowment policy, currently R50 000, is also protected from creditors should you be declared insolvent.
The money you and everybody else invest in endowment policies is placed by the assurance company into portfolios of cash, shares, bonds and property with different risk profiles.
While traditional endowments offered a limited range of portfolios, there is now a broad range of underlying investments from which you can choose and often you have the ability to switch between portfolios.
You can nominate a beneficiary to whom your endowment will pass if you die. This way the investment will not be taken into account when calculating the value of your estate and the executors' fees. This could lead to a saving of almost four percent on the value of the investment.
You can choose whether you want the endowment to be paid out to your nominated beneficiary at your death or whether you want the endowment to continue after your death.
Van Niekerk says when an endowment policy matures, you have several options, including:
* Keeping the money invested for potential further growth. If you keep the money invested, you can either continue paying premiums or stop adding to the investment.
You can also change the underlying portfolio. There may be many more options to choose from than when you first took out the policy.
* Opting for guaranteed growth. Most companies offer a guaranteed growth rate on a matured policy of between nine and 12 percent. Again you can choose to stop adding to the investment or to continue the premiums.
* Withdrawing the money as a lump sum or for income. If you are in a guaranteed portfolio and depending on the company where your money is invested, you may be able to make regular withdrawals to supplement your income or partial withdrawals to cover expenses.
You can also withdraw all the money and invest it elsewhere, but this option is not recommended because you will pay the costs and commissions all over again. You can expect to pay about three percent in commissions on a lump sum endowment. It is better to switch the underlying investment portfolio, Van Niekerk says.
* Making loans from the policy. Instead of drawing money from your matured endowment to spend, you can take a zero-interest loan against your policy. This will allow you to top up the policy to its original value later on and keep the tax-free benefits which you may want at a later stage. The flexibility of being able to make withdrawals and repay the money is one of the major advantages of an endowment.
You can also take an interest-bearing loan against your policy but this is not advisable because the interest rate the company will charge you is often higher than the growth on your endowment.
* Selling the policy. A matured endowment is a valuable asset and you could sell it at a premium. If you want to sell your matured endowment you should look at prevailing rates and make sure you get a good deal, Van Niekerk says.
The broker who sells the policy for you will charge commission, but this should be paid by the buyer.
As there is no finality yet on capital gains tax due to be introduced in April, bear in mind that if you buy a second-hand policy you could be liable for capital gains tax on withdrawals from such a policy. On a first hand endowment withdrawals are not likely to be taxed.
This is all the more reason to hang onto your endowment, Van Niekerk says.
The best way to go about making a decision about what to do with a matured endowment is to get advice from an investment adviser who must do a proper needs analysis for you. Remember to distinguish between what you need and what you want and keep in mind succession plans and retirement needs. Your retirement needs are likely to be different from your pre-retirement needs.
Get all the necessary information and make sure you understand all your options.
An endowment is an investment policy with a minimum term of five years. A matured endowment is one that has completed the original contracted investment period.