Wednesday, June 08, 2011

How Much Money Do You Need for Retirement?

I went to a seminar by our superannuation (retirement fund) provider at my employer today. The presenter referenced a recent Australian survey that tried to define how much income retirees need based on surveying actual retirees. They found that for a "comfortable" retirement a couple need after tax $A54k ($US58k) per year after tax, assuming that they own a house 100%. In Australia there is no tax on retirement accounts once they are in pay out mode after age 60 and so the before and after tax numbers are the same. The presenter said: "That means you need $1 million. If you want to take a bit more risk or run down your capital then you could get away with less than that." The article I linked above says you need $A815k to provide that level of income. The presenter at today's seminar was assuming a withdrawal rate of 5.4% p.a. and the article is assuming 6.6%. But it is a well-known rule of thumb that 4% of the initial amount (adjusted upwards over time by inflation) is the most you can withdraw annually without risking running out of money. And that rate assumes a moderate amount of risk (like 60% stocks and 40% bonds). Also, the advice by the presenter today made no allowance for inflation between now and the date you retire (the linked article does note that the $A815k is in today's money).
Why is this dangerous advice being given out in Australia?

Based on current expenditure we could live OK on less than $A54k a year if we didn't pay rent. $A42k would be enough - halfway between the modest and comfortable levels. But then there are property taxes and house maintenance so we can't just take our rent away to find the comparable number. So I think $50k a year is a reasonable number. But to find the required net worth you need to multiply by 25 and then adjust for inflation. If I retired at age 60 and prices rise by 3% p.a. between now and then I will need 51% more capital than now. The lump sum I get is $A1.89 million + a house. A house costs currently about $A700k near where we live. Adding the same inflation adjustment to the house gives a total required net worth of $A2.9 million ($US3.2 million) in 2024.

Something I learned which I didn't know about the tax rules for Australian Superannuation. If a non-dependent (not spouse or child under 18) inherits your superannuation account they will have to pay 15% tax on funds derived from concessional contributions (contributions taxed at 15% from pre-tax income) but no tax on non-concessional contributions (contributions from after tax income). I knew that tax could be payable in these circumstances but didn't know the details. This is a reason that you don't want your superannuation to be paid to your "estate" in the case of your death. 15% tax will be charged on the concessional contributions.


Financial Independence said...

I think that over period of time you will need more than that.

Your expenses will only increase - less work you can do your self and you need hire somebody else to do it.

Medical bills will go up as well, as not everything is covered.

My thing is, that the people scared off will keep on working till they physically could and than they will die.

It has been known before, when people work at corporations, retire and die after 3-7 years being away. said...

I think estimating the "required" super balance is a very personal exercise, not amenable to "rules of thumb". For example, I've never understood why people plan on shifting their asset mix to semi-conservative as soon as they hit "retirement age". If you're planning on your super lasting 10-15 years in pension mode, then you'd probably have a very gradual shift in investment mix as you move through 55, 60, 65, 60 etc. So a 4% sustainable withdrawal rate may be overly conservative.

Also, in the worst case, running out of super in your "golden years" (if you own your own home) isn't currently such a huge disaster in Australia as you'd then be entitled to a modest amount of aged pension. Not lavish, but better than nothing (and equivalent to having a sizable lump sum sitting in a SMSF as a self-funded retiree).

Finally, although I toyed with the idea of 'early retirement' (55-60) pre-GFC, these days I expect to keep working (health and employer permitting) until 65-67, which changes both the pension-mode timegframe and the length of remaining accumulation phase.

With some many variables, it's probably better to just save as much as feels comfortable, pick a suitable investment mix, and ensure you have enough total&permanent disability insurance and loss-of-income insurance in case you can't keep working as long as expected.

mOOm said...

The data show that people spend less over time as they go through retirement (assuming they have good medical coverage).

We actually just save as much as feels comfortable. Based on current projections we would hit twice the amount I mentioned in the post if we both keep working till I'm 60 in 2024 and keep saving at this rate and the financial markets are nearer long-term averages than they've been in the last decade.