ABOUT TO RETIRE? Your first few years of retirement are critical
Your salaried years may be over, and your retirement contributions may have stopped, but that doesn’t mean you should forego your savings mindset. After all, it could be critical to successful retirement planning.
Start retirement sustainably
As you approach retirement, speak to your financial adviser about the amount you’ve saved compared to the amount you’ll need to live on in retirement. Then, make decisions around your retirement budgeting accordingly – you may need to cut back on your pre-retirement expenses, or consider a part-time job in your early retirement years. It’s critical to have sight of this early into your retirement, so that you can put a sustainable plan in place.
“If you’ve applied yourself diligently towards your savings, and you want longevity out of your retirement capital, then 25% of your retirement capital should give you an income at least in the short to medium term,” says Kiru Padayachee, Business Development Manager at Glacier by Sanlam.
He also highlights longevity risk – the risk that an investor, who is drawing down an income from their savings, outlives their capital; and sequence risk – the risk that the timing of withdrawals from retirement savings will have a negative impact on the overall effective rate of return – as factors worth considering. Speak to your financial planner about how to ensure your withdrawals are appropriate to manage these risks.
How you save and spend in your first few years of retirement will set you up for financial habits that will help ensure longevity into your retirement.
Apply the 4% rule
You’ve spent years planning for retirement carefully – now it’s important to manage your retirement income withdrawals so that your hard work pays off for the duration of your retirement.
The 4% withdrawal rule is the guiding benchmark that’s used globally by pension funds, says Kiru. By withdrawing 4% of your capital per year in the first few years of retirement, you should leave enough of it to continue to grow, ensuring its longevity. For example:
With this formula, you’d be able to set yourself up for the next 25 years. “The 4% rule is within the inflation target. If you can live with what you earn, adjusted for inflation on an ongoing basis, then you shouldn’t run out of capital,” says Padayachee.
Lower capital means higher percentage withdrawals to maintain your standard of living, which won’t sustain you for long, especially since it isn’t geared to keep up with inflation. “With the 4% rule, the general premise is that with a 50% equity portfolio and 50% bond/cash portfolio, you, as a retiree, should have at least 25 years of income,” continues Padayachee.
Be intentional about eliminating debt (and avoiding new debt)
Do this so your retirement income isn’t encumbered by outstanding debt, like student loans, cars and houses, in your golden years.
A guide, suggests Padayachee, is to reduce your total debt by paying it off in set increments for each year leading up to your retirement. For example, if you have R20 000 in debt, aim to reduce your debt by R5 000 each year in the four years leading up to your retirement, so that by the time you retire, your debt balance is zero.
Once you’re in or nearing retirement, reducing debt becomes increasingly critical – and taking on new debt is to be cautioned against. Ideally, your retirement income should go towards living expenses rather than servicing debt costs. Speak to your financial adviser about how to speed up any debt repayments owed, and the impact this may have on your retirement income.
Draw up a retirement budget
This is an essential tool for helping you plan for the next chapter of your financial life. It links back to your desired lifestyle in retirement. It won’t miraculously snap into place; it’ll involve a budget adjusted for the income you’ll receive after you’ve stopped earning a salary, and hopefully no need to service debt that you would’ve settled by the time you retire.
Critically – and perhaps most uncomfortably – your budget will likely need to decrease into your retirement, since not many of us are able to increase our income from when we were earning into our retirements. The sooner you can plan what this looks like and make the adjustments, the better – and the more likely you’ll be able to enter retirement comfortable that your income will be sustainable.
Discuss your retirement planning with a financial adviser
Put retirement planning on the agenda for your next meeting with your financial adviser to get a clear understanding of what you’d be able to afford in your retirement. Your pre-retirement savings efforts are only part of the puzzle; ask your financial planner about post-retirement solutions that are best suited to your needs.
Explore your post-retirement options
Depending on your wealth bracket, there are various options available to you for sustaining your retirement income.
If you’re a middle- to high-net-worth retiree
A living annuity gives you market exposure, which means, depending on its composition, it’ll be invested in funds, whether it’s unit trust funds, shares, exchange-traded funds or index funds. “If you have too little retirement capital, then this is not the vehicle to be in because of the uncertainty of the way that it will earn its returns,” says Kiru. Needless to say, the financial management of this solution is critical.
Withdrawals: 2.5-17.5% per annum
Frequency of payout: monthly, quarterly, six-monthly or annually
Upon death: money is available to beneficiaries, either as capital or as an annuity, so whatever is left in the living annuity.
If you’re a middle- to lower-net-worth retiree
Life annuities offer the certainty of a fixed monthly income, with no exposure to markets. This eliminates the pressure on you, the annuitant – but because the rate applies for as long as you are alive, you can’t benefit from market movements, or any increase in the interest rate.
Withdrawals: set rate per month for the rest of life
Frequency of payout: monthly
Upon death: the capital is not available to beneficiaries other than a spouse who may have been selected as an income beneficiary for the annuity to continue.
If you’re somewhere in the middle
Some life insurers offer hybrid options, which combine features of living and life annuities in a single product.