The 5 Rules of Retirement

The mere thought of retirement for some people can be so overwhelming that we just put it in the too hard basket. Or we start to think that it’s so far way I’ll worry about it later. Well I just wanted to let you know that retirement is a really basic concept. It essentially means having more income than expenses whilst not working for that income. I’d recently read about a couple who retired in their mid-30s. The key was that their expenses were less than $25,000 per year. They both had high paying jobs ($150,000+) per year and built enough passive income through investing and kept their costs to a minimum.

What is your ideal retirement?

Now retirement means different things to different people. I’ve had clients who want to travel the world and eat at the best restaurants across the country. And on the other extremity I’ve had clients who were happy to work in their garden and leave the house about once per week. Both happily retired but both have very different lifestyles. Currently the Australian government say for a comfortable retirement couples will need an annual income of approximately $60,000 p.a. This assumes that the house has been paid off. Follow this link to find the breakdown of expenses http://www.superannuation.asn.au/resources/retirement-standard.

However I prefer to use a method that is popular in the finance industry. This is that you will need approximately 66% of your final years income for a comfortable retirement. So if you and your partner have a combined income of $100,000 before you retire, then the assumption would be that you would need an income of $66,000 per year to live comfortably. The reason that I like this calculation is that it takes into account people’s lifestyles. There is a saying that ‘people will always live within their means’. This meaning that people will build a lifestyle based around their income. So someone earning $200,000 per year will have different spending habits to someone who is earning $50,000. And that’s why I like it more. Because people get very set with their spending habits. If you’re aiming for a ‘comfortable’ retirement income of $60,000 per year but use to earning a higher 6 figure income, then you are going to be in for a bad time. To get you on track for the retirement that is right for you below is our 5-point retirement plan.

Purpose

You should have guessed this by now! Everything you do needs to do starts with purpose. If you want a comfortable retirement get specific. Put a dollar figure on the income that you want. Write down the lifestyle that you desire. Trips, restaurants, entertainment. Discuss with your partner so you are both on the same page.

Free accommodation

Having the mortgage paid off is a huge benefit in retirement! This is one of the biggest outgoings that people have. Remember that the game of retirement is all about having income greater than expenses. So getting rid of the biggest expense is a big step in the right direction. The other benefit of owning your home in retirement is that it is still subject to capital growth. The value of your property will (generally) continue to rise when you’re in retirement providing you with another form of capital. A common strategy used by retirees is downsizing their house to something more manageable. When you’re retired and the kids have left home you no longer need a bigger 4-bedroom place with lawns and gardens that require constant maintenance. Downsizing can give you access to a tax fee lump sum that you can invest and add to your income.

Superannuation 

Ah superannuation. That thing that we’ve been contributing to for years on end. Some consider this the holy grail of retirement! And why not? It provides you with tax free income, it’s still invested in the market and you don’t pay any tax on investment returns (when it’s an income stream). This is the option you get when you want to draw an income from your super. It becomes what is known as an income stream. If you have $1m in super and have an annual return of 6%, this will provide you with enough income to pay most expenses. With all these upsides there has to be a downside to super. So what are the down sides with super? You still have to pay fees to keep your super opened. These will vary depending on the company of course. The other potential downside is the fact that it is still invested in the market. This is what happened during the Global Financial Crisis. Share prices plummeted and super accounts that head shares also followed. The biggest challenge is that when you suffer a big loss like that in retirement you simply don’t have the time to wait for the market to turn around. You need your capital to be pretty liquid. You can choose a more conservative option where around 50% of the funds are in a cash account.

Investment Property

An investment property can either be the best or worst asset for your retirement. To be the best asset it should be low maintenance with a positive cash flow. Negative gearing has no place in retirement. By having a cash flow positive property it becomes another source of income. And the rental yield should be greater than what the banks are offering. I had a client who owned a $1.3m unit in North Sydney with a net rental yield of $25,000. It’s great that it produces a passive income but let’s compare to what she could get in a term deposit. Let’s say that they sold property and got a net of $1m (after capital gains tax and selling fees). Place $1m in a term deposit @ 3% and the interest would be $30,000 per year. And the income from a term deposit is much less stressful then managing an investment property. However a term deposit does not give you access to a capital appreciating asset. This is the trade-off that you need to think about. It relates to the saying of being asset rich and cash poor. You could have a $2m investment portfolio but not have $50 to fill up the car. In retirement cash-flow is king!

Being the worst asset usually means it has become a money pit. This is usually the case for city apartments where the strata fees are crazy or a tourist town where rents are seasonal and house prices are unpredictable. I was looking for an investment property in the suburb of Potts Point in Sydney. At the time the apartment cost $330,000 but the strata fees, council rates and water were close to $2,000 per quarter or $8,000 per year! That would really eat into any potential income.

Share Portfolio

A share portfolio or managed fund can give you another avenue of income as well as a liquid asset. If you are confident in your own abilities with the share market then there you can create your own portfolio without paying fees to a fund manager. If you are not so confident you can either learn through one of our online courses or opt with a managed investment. The main focus of your share portfolio will be to have it produce an income whilst maintaining its value. The top 20 or top 50 companies on the stock exchange can provide little volatility with higher dividends. If you have a $100,000 share portfolio that produces a 7% dividend, then you will receive another $7,000 of passive income.

The key takeaways are that cash-flow is key. Retirement is about producing a passive income greater than your expenses. Start by eliminating your biggest expense and pay off the entire mortgage on your family home.

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