Medical advancements mean that we can hope to live much longer lives, but this raises the key question: how do you save enough money to ensure that your retirement funds don’t dry up too soon – especially if you’re a late starter?
The answer, says BayHill Capital Wealth Advisor Mbulelo Musa, is to make sure that you start saving as soon as possible, and to think carefully about the way in which you save and invest.
“Longevity risk, or the possibility that you could outlive your savings, is one the greatest financial threats that you will face,” he warns. “And with life expectancy on the rise in South Africa, careful pre-retirement and post-retirement planning is more important than ever if you want to avoid a financial drought.”
The question of how much exactly you will need depends on the lifestyle you hope to have in your retirement, as well as your gender.
According to Musa, a rule of thumb states that for each R1 million saved in today’s terms, you will earn a retirement income of roughly R5,000 a month for men, and R4,300 a month for women, as women are generally expected to live longer.
With this in mind, he offers five expert tips for making up for lost time and maximising your retirement savings:
Avoid cashing in your savings when you change jobs
Very few people preserve their pension or provident fund savings when switching jobs, instead giving in to the temptation to splurge these funds on lifestyle assets such as a car or a holiday.
However, by cashing in your retirement savings now, you will lose out on the power of compounding, whereby your capital and the interest earned on your savings both earn additional interest. Withdrawing your savings now will also reduce your tax benefits at your retirement, meaning that you may pay substantially more tax overall, reducing the size of your nest-egg.
Take advantage of tax incentives for retirement savings
If you don’t belong to a pension or provident fund, you can still take advantage of tax incentives for retirement savings by opting for a retirement annuity (RA), which is a type of private retirement savings fund. Like pension and provident funds, contributions to an RA are tax deductible up to a maximum of 27.5% of the greater of your taxable income or gross remuneration, and an annual ceiling of R350,000.
By striving to contribute closer to the tax deductible limits, not only will you benefit from lessening your tax liability and saving more, but the growth inside your RA is also tax free. In other words, your savings within an RA are free of Capital Gains Tax, as well as tax on dividends and interest received.
Choose your investments carefully
All retirement funds are subject to Regulation 28 of the Pension Funds Act, which dictates the limits to which these funds are allowed to invest in particular asset classes. This law ensures that retirement funds are appropriately diversified, meaning that your investment risk is spread across different types of assets such as cash, bonds, property and equities (shares).
If you are starting your retirement savings late, however, you may need to consider investing more aggressively by choosing an RA with a larger exposure to equities. Equity tends to be riskier and more volatile than other asset classes, but also offers the potential for greater returns over the longer term.
Look for creative ways to boost your savings
If you can’t save 27.5% of your total income, you could consider topping up your retirement contributions with your 13th cheque or performance bonus, or alternatively look for a second source of income.
You could also consider delaying your retirement to give you some more years to save, especially if you are in good health.
Make your savings stretch further
Finally, you could consider looking for ways to reduce your expenses in your retirement. For instance you could look to downscale your home by selling a bigger house and moving into a smaller apartment, and looking at buying a smaller, more fuel efficient car rather than a “status symbol”.
Most importantly, however, you should consider consulting a trusted financial planner to help you optimise your finances and reach your financial goals. Your advisor will be able to help you look for additional ways to save, advise you on an appropriate investment strategy and help you to understand the tax implications of your financial decisions.