In the good old days retirement planning was relatively simple. Most people belonged to defined benefit company pension funds, which paid members a pension based on their total years of service and final salary. Retirement age was usually 65, thus if you dutifully served your time from age 25, you would have accumulated 40 years of service, which entitled you to a pension of +- 80 % of your last salary. So most people retired financially independent, the only problem being they usually passed away a mere 8 years later.
What’s changed? First off, the majority of company pension funds are now defined contribution funds, which shift the investment risk onto the members. Member’s pension depends on the accumulated value of the fund at retirement, the key factors being the amount you invest and the growth. There is no longer a guaranteed pension at retirement. The responsibility is now on the member to ensure a comfortable retirement. There has also been a shift away from formal company employment with compulsory pension fund membership to self-employed entrepreneurs who are solely responsible for their own retirement planning.
The “double whammy” problem however refers to the retirement date and life expectancy of today’s workforce. Gone are the days that people work till 65 and drop dead 8 years later. The average person aims to retire at age 55, which is the first “whammy” and requires some dedicated savings. The second “whammy” is life expectancy, which is currently 78 for males and 83 for females.
Assuming a retirement age of 55 and a life expectancy of 78 the average male must have sufficient capital to provide him with an escalating income for a minimum of 23 years.
So before you start thinking of retiring calculate the amount of capital needed to provide you with your required income level. This is basic retirement planning, sadly most people get to retirement before they do this calculation. So instead of using the required income level to determine the optimal capital amount, most people approach the financial planner with the amount they have received from their fund and ask how much can I get? 9 out of 10 are bitterly disappointed with the answer.
Steven Covey writes of “seven habits” for effectiveness, one of the seven being, “begin with the end in mind”. Begin your retirement planning with your requirements and invest accordingly. An effective retirement plan starts the first day of employment and ends at retirement. Unfortunately most people think retirement planning starts the day you retire!
Mcomm, CFP®, HdipTax
T. 021-851 3746