We had a discussion about saving for a comfortable retirement in our office recently and we wanted to share some of the findings with you. Before we do, let's step back and take a look at the current environment we find ourselves in.
Whilst COVID-19 has had a significant impact on personal finances and retirement savings (among many other areas of life), these sorts of financial events do tend to come along more often than some people might realise.
For this reason, we are advocates of planning your personal finances so you can have some idea of what to expect in the future.
If you're just starting to consider your long term finances now, this article may help you to put a few things into perspective.
A recent Griffiths University study from 2017 looked at retirement in the year 2043, which is really not that far away for those in their mid 40’s. It’s typically around the age of 45 when we start to think about retirement.
The study indicated that, based on modelling assumptions, an individual would need savings of between $2.09 million and $3.98 million to live comfortably.
That sounds like a lot, doesn't it.
During our office discussion, one of us recalled an episode of the cult cartoon show “Futurama” where the main character Fry wakes up 1,000 years after going to sleep in a cryo chamber. When Fry checks his bank account upon waking up, he finds it has grown from less than $1 to $4.3 billion due to compounding interest. Talk about a dream come true - 1,000 years’ worth of dreams that is!
But the reality for most of us is that we won’t have the luxury of being frozen in time.
What if you have only around 20 years until retirement rather than Fry’s 1,000 years? For many Gen X’ers, our Futurama retirement pops up around 2043. So it's worth contemplating what a comfortable retirement looks like.
Just like current pre-retirees, it will be dictated by factors such as your health, lifestyle aspirations, and living arrangements.
One of the biggest unknowns is around what your health will be like in 20 years. It won’t surprise anyone that people are generally healthier and living longer. According to the Australian Institute of Health and Welfare, the more recently you were born, the longer you will live.
That means that if you’re a Gen X’er (born somewhere in the mid-1960s to late-1970s) then the Australian Bureau of Statistics (ABS) advises that you are likely to live another 40-45 years, or 20-25 years in retirement. Of course, lifestyle, gender and ethnicity can impact that, but generally, that means a long and healthy retirement.
Sounds like a good thing doesn’t it? Of course it is. But living longer means needing more money to fund your longer retirement.
In a 2015 report, the Actuaries Institute identified the challenge, calling it “Longevity Risk” or the risk of outliving your retirement savings. If Longevity Risk is a fear of yours, you're not alone. It's very common among those who are in retirement or planning towards it.
Two key principles suggested to alleviate this risk are:
(1) save more during the accumulation phase (adequacy principle);
(2) be more engaged in how your retirement savings are invested (information principle).
In English that means: The better you are at saving and investing and the better your understanding of how your financial situation might play out, the more comfortable you will feel about your retirement. The best way to achieve these 2 things are to have a plan.
What about the Futurama of retirement lifestyles?
Another logical outcome of living longer and being healthier is leading more active lifestyles in retirement, which could mean needing more money to lead that lifestyle.
According to the Association of Superannuation Funds of Australia (ASFA), a 65-year-old couple should be able to live comfortably on $62,000 each year in today’s dollars. While this is quite possible for some, if you like to get out and see the world (or even just Australia) you might require more.
The ASFA figures are working on an overseas travel budget of just $1,425 per annum. The reality is, travel is one of the main aspirations people have in their ideal retirement. So Gen X’ers should factor in a much higher amount to fund lifestyle activities in retirement well into their 70s.
And then there’s the reality of living expenses, not just lifestyle expenses.
Another interesting finding and trending development is the buy vs. rent decision. According to an ABS 2016 Survey of Income and Housing, there is a long-term macro trend towards lower home ownership (in other words, renting) and more people retiring with mortgages, which has almost doubled in the last 15 years. This cultural and financial phenomenon requires managing, as it could have a significant impact on your ability to fund your ideal retirement.
Firstly, Gen X’ers need to be aware that ASFA figures for a comfortable retirement assume home ownership, and do not include any expenses for rent or mortgages. Therefore, future budgeting or retirement savings need to consider clearing debt, or building extra savings for rent or mortgages.
The current age pension system massively favours home ownership, so factor that into your thinking regarding purchasing a home now or perhaps contributing more into retirement savings and using this to purchase a home in retirement. This current strategy takes advantage of the super and pension system.
Another tricky part of planning for retirement is factoring in inflation and cost of living increases. What you spend today on rent is not what you’ll require in 20 years.
In 2019, median apartment rents across the country jumped 2.3% to $450/week, which equates to $23,400 a year. Another source cites an estimate, as of January 2020, at about $2100 a month for a furnished apartment. Obviously, where you live has an impact, but that gives you a sense of today’s cost to rent a roof over your head.
Let’s try to extrapolate that for inflation. Using an online inflation tool - which we know won’t be perfect - we find that the value of $450 in the last 24 years has almost doubled. That $450 in 1995 was worth $818 at the close of 2019.
It’s worth remembering, then, that the amount of money you may need to live in 2043 will be vastly different than what you require to live today.
Now return to the ASFA data that a 65-year-old couple should be able to live comfortably on $62,000 each year in today’s dollars. That means today’s 40-year-old couple could need up to $124,000 a year, and they may need it for 20 years or more. And that still doesn’t include the costs to rent...
None of us are like Fry, and we won’t be sleeping for 1,000 years, waking to a giant nest egg. So it’s important to consider saving for a comfortable and happy retirement, considering factors like longevity risk and the cost of rent or a mortgage in the future.
The financial advisers at Financial Framework can help you plan for the future, including retirement savings, government entitlements and considerations about housing or debt.
Whatever the future holds, make sure you start thinking about it now and give yourself the best chance of living your ideal Futurama Retirement in 2043!