Most Kiwis think they won’t have sufficient retirement funds and for many, they are right. So says the Financial Services Council in a recently released report from its Money and You research series called Perceptions vs Reality.
Of 2000 respondents to a survey conducted for the research only 44% felt financially prepared for retirement. For women, only 33% feel financially prepared. Of those who felt ‘extremely confident’ in planning their retirement, less than a quarter had a specific figure in mind of how much they may need. The majority of people surveyed (60%) hadn’t thought about how much they will need in retirement and those who had thought about it varied wildly in the amount they estimated they would need. The median guess was around $200,000 which is very much at the low end of what Massey University’s Retirement Expenditure Guidelines indicates is needed for a comfortable retirement.
These findings are surprising given that over 80% of the respondents considered themselves to be confident with making financial decisions. There seem to be two issues here – firstly that people are delaying their retirement planning and secondly they don’t seem to have a good understanding of how much they will need.
So when should people ideally start making their retirement plans?
Let’s be clear. Having a retirement plan and saving for retirement are two completely different things. Preparing for retirement is a journey that has a number of different steps, of which the last one is setting up your retirement investment portfolio. A plan is a means by which a goal is achieved and the starting point for making a plan is to think about how much wealth you will need at the point of retirement. Your wealth will be in two categories – the wealth you have tied up in the house you live in and the wealth you have in your investment portfolio – for example, KiwiSaver.
Planning to own a debt free home is an important aspect of retirement planning as paying rent or a mortgage will add significantly to the amount of income you will need in retirement. However, think carefully about how much of your wealth should be tied up in your house. The lower the value of the house you choose to live in for your retirement, the more wealth you will have available to invest.
The Massey University Retirement Expenditure Guidelines are a useful benchmark for determining what your retirement income needs will be and the retirement capital needed to generate that income. For a more customised calculation, use a retirement calculator such as the one on the Sorted website (www.sorted.org.nz)
Having set your target level of retirement capital, your retirement planning journey starts with buying a house, which of course comes with a mortgage. At this point some careful thinking is needed, as you need to make sure your mortgage can be paid off well before you expect to retire. The time between paying off your mortgage and retirement is when your retirement savings should be escalated.
While you still have a mortgage on your home, your best strategy for creating wealth is to pay off your mortgage as quickly as possible. Of course, it is still important to contribute to KiwiSaver to take advantage of the employer contributions and tax credits but there is little advantage in contributing more than is required to get the maximum benefits. Borrowing to invest, for example buying a rental property is also a strategy worth considering while you still have a mortgage so long as you do your homework on the right property to buy.
So in summary, retirement planning and retirement saving are two different things. Plan your retirement early – no later than the time you buy your first home. Set your target for how much wealth you want to have by the time you retire. Build your wealth by paying off your mortgage as fast as you can, while contributing to KiwiSaver. Once you have paid off your mortgage, focus on building your investment portfolio. At the time you retire, make sure you have the right balance between the wealth you have tied up in your house and the wealth you have in your investment portfolio. It’s as easy as that!