Planning for retirement can be kind of a nebulous thing. How much will you need in retirement? Well, how long is a piece of string? Putting a dollar figure down years in advance can be tricky.
But not setting a retirement savings goal risks leaving you with too little at the end of your life – so how do you make savings decisions like this?
It all depends on the life you wish to lead in retirement, and experts say that should be the focus of your planning, not an arbitrary number.
James Millard, author and director of financial planning firm Sufficient Funds, says you need to get numbers out of your head and focus on what you actually want to do in retirement.
“We [his firm] see money as a facilitator more than anything,” he says. He explains that the lifestyle you wish to lead in retirement – where you live, what you eat, how you spend your leisure time, etc – should be the basis of any savings plan.
“It’s just there to help you. It’s not that you don’t need it, you absolutely do. But it’s a facilitator of the things you really care about.”
For example, you might think you’d like to own an investment property in retirement. But Mr Millard says that’s not the type of goal he’s talking about. Instead, he says you should think about what having an investment property would allow you to do.
“The real goal, if you want to use that word, or the intention, is what does that actually allow you to do if that all goes really well?” he says.
“You need to find where you want to end up, what life you want to end up with and then work backwards a bit to get there”.
In the investment property example, the actual goal is creating an income stream separate from your super or the pension. Renting out real estate is one way to do that, but not the only way.
There may be a cheaper or better way to generate that income, so don’t focus too much on one particular financial avenue, instead find the end point you want to achieve and look at the different ways to achieve that.
What to do with the inheritance
Many people making retirement savings decisions in their 40s and 50s will also need to decide what to do with any inheritance they receive from the passing of older parents. Of course, not everyone is lucky enough to receive an inheritance but for those who are, using it effectively can set you up for a comfortable retirement.
Mr Millard says you should first of all take a moment to process your parent’s death before making any decisions.
“Until you’ve dealt with and grieved and gone through that process, you’re probably not making decisions quickly,” he says.
“Don’t feel like you have to rush. [Don’t think] ‘okay, there’s a million dollars in the bank, we have to do something now’, because that’s when you make mistakes.”
But once you are ready to make those calls, Mr Millard says he usually advises his clients to take care of four key areas first.
“We call it the four stacks of Sufficient Funds,” he says.
“But it’s really simple. Debt, savings, investment, and super.” Mr Millard says you’re best off attacking these four pillars in that order.
“If you’re swimming in a credit card debt or something like that, certainly you need to get rid of that faster than everything else. Because that’s where the highest interest rates will be,”
Once any debt is clear, you’ll want to build up at least some savings for emergencies.
“You want to have some cash in the bank. You might save three months of expenses, for example,” he says.
“Some will want more, but it depends on your situation, on your risk tolerance, that side of things.
It can be tempting to throw the whole thing on to your mortgage; to get that paid off as soon as possible so you can enjoy all those capital gains. But Mr Millard says in today’s inflationary climate you’d actually get a better return putting that money into the share market or even superannuation.
“You could argue that the long-term returns on the share market or property in super, for example, and with the tax benefits you get especially if you’re contributing to super, your net returns would be higher [than house price growth].
“So, you’re either saving the money on the interest rate by paying it [the mortgage] off or making more money over the long term in super or some sort of investment.”
Mr Millard says you need to do the calculations (or speak to an adviser) to see which method will give you the best return.
“That’s kind of the trade-off you’re looking at,” he says.
“And also why I say it’s probably good to balance it [split inheritance between mortgage and investments] is because 6 per cent on the home loan might be less than what you get long-term in super.”
He says another option could even be to reduce mortgage payments to their absolute minimum, and put the remainder of the inheritance into super where it can make more money.
Upon retiring, you can then withdraw your super to pay off the mortgage, pocketing any difference.
So, before making any concrete plans with what to do with your money, take a moment to work out what it is you really want to do in retirement before setting anything in stone.
Do you think you will have saved enough for retirement? What kind of retirement would you like to have? Let us know in the comments section below.
Also read: How to develop your best transition to retirement plan
