In my job as a financial planner, this is the most asked question by clients and prospective clients. Most people want to know that they either have enough or are on track to having enough to be able to retire comfortably at their desired age.
This short blog will try and help give you a rough idea of how to work out what is enough. And by enough, I mean enough to do the things you want to do. Whether that is work a bit less in the future, retire fully or maybe help your children out in the future.
Income and Expenditure
As always with financial planning, the focus is on income and expenditure. What’s coming into the household and what’s going out?
Now, throughout your working life, your income has probably covered what’s been going out and you have likely even had some spare income each month that you can save. When you retire it’s sensible to assume that you will have less coming into the household than when you were working, but often your outgoings stay the same – or even increase as you have more spare time.
The first step to working out how much you need is to work out how much income will be coming into your household when you retire. This could be rental income if you have a buy-to-let, it could be a defined benefit pension from your employer (especially if you work in the public sector) or it could be just some part-time work that you want to do to keep busy.
As well as this one of the biggest sources of income for you in retirement is likely to be the State Pension. At the time of writing the New State Pension is around £185 per week per person with the state pension age set at between 65-68 depending on when you were born.
So while a healthy couple at state pension age can rely on a joint household income of just over £19,000 from the state alone, there is a lot of life to be lived between now and then and you may not see yourself working until 68.
Now that you have worked out what is likely to come into the household in retirement you need to work out what is going to be coming out. Now the further you are from retirement the more woolly this could be but if you are planning your retirement in the not too distant future you probably have a good idea of the lifestyle you would like.
The chances are when you have worked these figures out that there won’t be enough income to cover your desired lifestyle in retirement. So you need to make up the difference somewhere, which is why you save and invest.
When you saved/invested enough so that you can cover this shortfall then that is when you have enough to no longer need to work. But how do you work out what this figure is?
How do I work out what is enough?
Within this calculation, there are loads of variables. Investment returns, inflation, unexpected costs and more so to get a truly accurate picture it is best to speak to a Certified or Chartered Financial Planner.
There are, however, a lot of rules of thumb in our industry about this but one of the most long-standing is the 4% rule. This “rule” states that you should be able to draw 4% of the value of your portfolio each year and it will last the rest of your life.
In that case, you need to work out what you are going to need in one year to make up the difference between your income and outgoings in retirement and then multiply that figure by 25
For example, say you want to retire when you reach your state pension age and will have £19,000 of state pension income to rely upon coming into your household and you need to spend £40,000 to live your desired lifestyle in retirement. That is an annual deficit of £21,000. Times this by 25 and then the number you need to save or invest is £525,000.
This figure will depend hugely on the income you can rely upon in retirement. For example, if you were not to rely on the state pension and planned to retire earlier then you would need to save more.
Chances are when you do your individual calculation that this is quite a big number and a great deal depends on where you are in your journey. If you have been saving and investing for several years you may be closer to your number than you thought
How to get closer
But how do you get from where you are now to getting closer to that magic number? There is no shortcut. The only way is to spend less than you earn and invest the difference intelligently. Review your savings regularly and try your best to increase this number as often as you can. Even as much as increasing by £20 a month every year will make a big difference.
A heavy caveat to the 4% rule is that it is merely a rule of thumb designed to give you a rough idea of the kind of number you are aiming for. The only real way to get a true sense of what you need to do to achieve your financial goals is to speak to a Certified or Chartered Financial Planner who is an expert in cash flow modelling.
I hope you have found this useful and as always if you have any questions please feel free to get in touch.
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