By Noel Whittaker
Sunday Times 12 Oct 2014
New research by Mercer reveals many Australians are in for a shock when they retire, as there may well be a significant gap between their expectations and reality. Given other recent research by Mercer that one in three male public servants are now living to over 90, it is clear more Australians are facing the challenge of making their money last as long as they do. The solution is to start as young as possible and set some specific goals, such as exactly when you want to retire, and how much you’ll spend when you do.
A simple rule of thumb is that your retirement capital should be around 15 times your expected expenditure. For example, if you believe you will spend $50,000 a year in retirement, you will need $700,000 in your portfolio. This is based on the assumption that the earning rate is 8 per cent, drawings are indexed at 3 percent, you retire at age 65, and all capital is expended by age 91.
This may seem a huge amount of money, but don’t despair – the first step in solving a problem is to define it.
For starters, our social security system will be there as a back-up. A couple of pensionable age who retired now with $150,000 in financial assets should qualify for about $33,000 a year in age pension. If their expenditure goal in retirement was $50,000 a year, the additional amount needed drops to $17,000 a year when the age pension is taken into account.
Using the 15 times rule, this means they need only $225,000 in super to get them through. These numbers may work for people who are approaching pensionable age now, but it’s a different story for those who are younger – it’s a certainty the government will not have the money to maintain the present pension system as the number of retirees grows. Let’s think about a hypothetical family to show how retirement planning can work.
Bob is 50 and earns $90,000 a year, his partner does not work but could find a job if necessary. Their main assets are a home worth $700,000, which still has a mortgage of $150,000, and his work superannuation worth $200,000. If inflation is 3 percent per annum, they will need $82,500 a year when he is 65. Using the 15 times rule, he will need to accumulate superannuation of $1.24 million by then. That sounds like a vast sum, but we are talking 15 years into the future.
If his income rises by 4 per cent a year, and his super earns 8 percent a year, there should be $894,000 in super by the time he is 65. They will be $346,000 short of their target, and unlikely to qualify for any government assistance. One option is to salary sacrifice $1168 a month. After deduction of the 15 per cent contributions tax, this should provide the extra $346,000 if his fund earns 8 percent.
Of course investing is more of an art than a science, and many things could happen to change the outcome. On the downside, Bob could lose his job or suffer a major illness.
On the plus side, he may get a big pay rise, his partner may get a job, or one of their parents may die and leave them a legacy.
Individual circumstances change continually which is why ongoing advice is vital.
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