How To Make Sure You Never, Ever Run Out of Money
This is easily the most important calculation you’ll ever make in your life.
When it comes to your retirement you have to be absolutely sure, or even a little mistake could destroy your retirement.
Imagine getting to that place you’ve planned for your entire life only to find out you don’t actually have enough money?
Or worse yet, you have enough but not for the length of time you need it for!
This is not uncommon, and recent studies have even shown that 90% of retired South Africans aren’t able to maintain their standard of living in retirement.
If that wasn’t bad enough, more than half of the people who retire in South Africa experience a shortfall between their income and expenses!
This is the stuff nightmares are made of.
But what if I told you there was a tool you could use that’ll make sure you never, ever run out of money in your retirement again.
I call it the “Perpetual Income Tool”, and if you’re looking for a stress-free, comfortable retirement, you simply have to read this…
The Tool That’ll Fuel Your Retirement With A “Perpetual Income”
The most vital aspect of financial planning is saving enough for retirement.
You want to have enough money in your retirement pot to finance you through the remainder of your life.
You may contribute towards a retirement annuity (RA), pension fund or other form of investment to help you achieve this.
Once you reach retirement age, you need to decide how you’re going to make this money last.
One popular option is an annuity.
And these annuities are capable of providing you with a “perpetual income” in retirement.
Annuities basically provide you with that income from your retirement savings (IE how much you’ve saved up).
It may only be once you start exploring annuities that you realise your savings aren’t going to provide the level of income that you thought they would.
This underlines the importance of starting to save as early as possible and contributing as much as you can to retirement savings.
There are two main forms of these “Perpetual Income Tools”…
Perpetual Income Tool #1: Life Annuities
This is an insurance product, which provides you with an income until you pass away.
As this annuity guarantees an income for life, the income will be less than what you could achieve from a living annuity.
But with this reduced income comes the peace of mind that you will always receive an income until the day you die.
Your annuity provider will estimate your likely life expectancy by considering your current age, gender and other factors.
There are different types of life annuities, including:
- Fixed annuity – you receive the same income for life
- Variable annuity – the provider adjusts your income for inflation. This means that initially your income will be less, but will rise over time
- Annuity including your spouse or partner – income will be less as the odds are the insurance company will have to pay out an income for longer
- With profit annuity – depending on the performance of investments, you will get an annual increase. But there’s a chance of very low increases if the market is performing badly
Unlike a living annuity, when you pass, no capital will pass to your beneficiaries.
With this type of annuity, your financial provider decides what income you’ll receive.
It’s also highly unlikely you’ll be able to move to another provider once you enter into this agreement.
Your income depends on the amount you have in savings, the type of life annuity you opt for and interest rates.
The more guarantees you factor in, such as the annuity income being linked to inflation, the less your income will be.
Perpetual Income Tool #2: Living Annuities
A living annuity is a product for investing your retirement savings to provide you with an income.
The investment company you have your annuity with will invest in:
- Unit trusts
This means your retirement savings will continue to work for you, whilst providing you an income.
This product is quite flexible in that you can change your annual income.
But this cannot be more than 17.5% of your capital on an annual basis.
Yet, the more you take, the less savings you have working for you, which will affect your future income.
A trade off to this flexibility is that if you live longer than expected, your savings may, in fact, run out.
There is also the risk that the returns of the annuity investment won’t perform as well as you expect, thereby producing a lower income than you need.
When you pass away, any remaining savings will go to your nominated beneficiaries.
Life And Living Annuities Compared
To summarise the pros and cons of these types of annuities, have a look at the table below…
As you can see, there are pros and cons to each of these annuities.
The problem stems from just not knowing when you’re going to pass on.
For instance, a living annuity may provide you with a much better income than a life annuity.
Yet, if you live for much longer than anticipated, there will come a time when your living annuity will stop paying you an income.
This means you need to have another form of income or investment to cover this unknown.
This can make a life annuity look far more attractive, but to compensate for the security of an income for life, the income will be much lower.
How Retirement Annuities Fit In
If you have all or a chunk of your retirement savings in a RA, by law, you must invest at least two-thirds of this into an annuity.
In other words, you’ll have to opt for one of the above options.
A lot of people aren’t aware of this, don’t have this explained properly to them by their advisor, or simply don't plan for it.
They then end up withdrawing lump sums after a certain age, and get taxed heavily - And even then those lump sums can be limited as well.
What About Tax?
Regardless of which annuity you go for, there is also tax to consider.
Annuity income is taxable, so the higher your income, the higher the rate of tax you’ll pay.
This is an important factor to bear in mind.
What’s The Best Option For You?
There are several factors to consider when it comes to deciding which annuity is the best option for you.
- The age you plan to retire at
- The size of your savings to put into an annuity
- The level of income you require
- Potential tax to pay
- Your attitude to risk
- Whether you want your income to keep pace with inflation
- If you want your income to be flexible
- If you want your heirs to receive any remaining savings when you pass
- Whether you want to support your partner or spouse with the annuity too
- Your life expectancy, bearing in mind women generally live longer than men
With such a mammoth decision, you must speak to a financial planner or financial advisor.
It’s a good idea to consult an independent financial planner or advisor so you know the advice you receive is unbiased.
They will be able to put together a solid financial plan taking into consideration your financial situation, other assets and liabilities.
From this, they’ll help you to arrive at the best annuity solution for you.
Until then, here’s to a good retirement.
The Money Lab