GOOD question – it depends on how early, what your aspirations are during retirement and what resources you have.
As a general rule of thumb, studies suggest that you will require between 50% and 65% of your final salary to fund an active retirement and be able to maintain a similar lifestyle to that which you have enjoyed during your working life.
However, this assumes that your debts and mortgage are paid off and that you will not have the commitment of paying rent for the rest of your life. It also assumes that you have no financial dependants,
such as children still in full-time education.
Let’s consider how that income stream can be achieved:
- Guaranteed income streams in retirement – you may have a final-salary-pension scheme and most of us will be entitled to a States pension of some sort.
- Employer’s pension – more commonly, employer’s pensions are defined contributions, which means that their value and the future income they provide will fluctuate.
- Personal pension – again, this is typically a defined-contribution scheme where the value and future income is linked to the investment performance.
- Other financial assets – stocks and shares, investments and cash that might be available as lump sums or that could generate an income.
- Investment property – rental income.
- Main property – many people choose to downsize and release equity from their family home, which can then be invested to generate an income.
This list is by no means exhaustive, but represents the more common resources that might be available to you.
How do you get a good idea of how much you will need?
Let’s start with essential spending:
- Food.
- Utilities.
- Subscriptions – phone, TV, social media, clubs.
- Car – petrol, insurance and maintenance.
- Other insurance policies – eg house, pet, life, critical illness and health.
- Entertainment and dining out.
- Clothing.
- A holiday or weekend break.
Now let’s look at discretionary spending, which could include:
- More than one trip away, having a second home to visit overseas, pricier holidays like a cruise or taking the extended family somewhere special.
- A new car every five to seven years.
- Property improvements.
Remember that all of the above expenses will escalate in price due to inflation, so we need to build this into our income expectations.
Pros and cons of retiring early
Considering an early retirement requires thought and planning, not just around financial wellbeing but also in relation to your health.
The greatest benefit is having the potential to enjoy doing things you want to – such as travelling, taking up a new hobby, learning a new skill, long lunches, caring for grandchildren or even parents or volunteering – while still being in relatively good health,
The list of downsides is a lot longer.
- You will still need to pay your Social Security contributions until age 62, which will eat into your pension income significantly.
- The money that you have set aside will need to go further for longer, meaning you will be recommended to take a lower income the younger that you retire.
- If a defined-benefit-pension scheme permits early retirement, your income will be significantly less, as it will effectively need to be paid out for a long period of time, based on mortality rates.
- Your States pension will not be payable until age 65 at a reduced rate, or 66 or 67, depending on when you were born. Even with a full contributions record, the current States pension for a single person is just under £12,000 per annum and, for a married couple, just under £19,000 per annum and is, therefore, only able to cover very basic expenses.
- Some people find that not working has a detrimental effect on their wellbeing, both from a mental and physical perspective. We humans thrive on routine.
- Retiring may also mean less social interaction on a day-to-day basis. You might find yourself missing your colleagues and the ‘corridor conversations’ we tend to take for granted.
I have found that many of my clients plan a phased retirement, meaning they start to reduce their working hours each week. There are many benefits to this strategy. If you look back at the downsides of early retirement above, the two that jump out are having money to be able to continue with your Social Security contributions, which means a better States pension when you qualify and the social interaction and routine, which aids our physical and mental wellbeing.
Back to the question – how much will I need in order to retire early? This can be valued in two ways: if you wanted to retire at age 60, an income of 50–65% of your salary prior to retirement or, based on recent surveys in the UK, an income of £26,000, should allow for a comfortable (rather than extravagant lifestyle). Of course, the Jersey cost of living may be higher than this.
For a comfortable retirement, your personal pension or defined-contribution scheme would need to be worth around £500,000 (after tax-free cash) if you were relying on that resource alone to finance retirement. This does not take into account inflation, which can reduce the spending power of your money at retirement. Of course, at retirement age, some of that income need will be addressed from the States pension.
If you wish to benefit from having a review of your financial situation, or want to start to bolster your retirement planning arrangements, to meet your future expectations, here at Alexander Forbes Offshore we are pleased to offer a no-fee, no-obligation initial meeting with one of our pension specialists.
The sooner you start to save for retirement, the more options you create to be able to partially or fully retire earlier than the States pension age.
