One of the things that makes planning for retirement difficult is that it is so far away. I’m trying to accelerate my retirement to be in 10 years rather than 27, but even then ten years is a long way off. Most people don’t even budget for something happening next month, let alone decades away! So how can you keep on target when your retirement is so far off? Well one vital step is something you should do right at the start.
Know your target
At the very outset of your journey to retire early you need to know what you are aiming for. What is your target? How can we hit the target if we don’t know what the target is? We will just be guessing. An archer doesn’t shut their eyes or turn their back on the target, they have a clear view of the target. They don’t ever take their eye off the target.
I’ve talked elsewhere about how knowing the reason you want to retire early is vital to keeping motivated. At this stage we’re going to go a little bit deeper.
Just saying you want financial freedom is great, but what does that mean?
- Does it mean you will never needs to work again?
- Or does it mean you can get by on some freelance work doing something you love?
And what exactly do you want from your lifestyle in retirement?
- Some may have the goal of stopping work and living a frugal lifestyle
- Others may want to use their hard earned cash to go on all of the holidays they have always dreamed of
Let’s get specific about our retirement targets
All who have accomplished great things have had a great aim, have fixed their gaze on a goal which was high, one which sometimes seemed impossible.
Orison Swett Marden
We will need to go through the financials to know how much our retirement dreams will cost. But for now let’s focus on what we want to target from a non-financial perspective. We can work out the cost of everything later. That may sound like a strange thing to say as an accountant, but if we start with the cost we may discount lots of things. Some things may actually not be as unaffordable as we think if we can make some changes to our life now. So what do you really want from your retirement?
I can’t write an exhaustive list as we all have such different desires and targets. However there are some questions that will make sure we can know what we are aiming for. There will be more detailed articles on each of the items below as I’m just skimming the surface of what you need to consider.
6 things you should consider to work out you retirement goals
1. Where do you want live?
For many people when retirement is reached they are sitting on a big asset in their home. Personally I would never consider your house as an out and out investment. Nonetheless for many it can be an efficient way to release cash from your property to invest elsewhere.
This is particularly the case if you want to downsize your property when your children have left home, or if you want to move to a different part of the country that has more affordable housing.
This decision shouldn’t be taken lightly though. Leaving your home can be an emotional wrench, particularly if you would be moving away from an area where your family and friends live.
2. Do you plan on having another income source when you retire?
Do you plan to completely stop working when you get the age you want to ‘retire’? This is why many people, myself included, often refer to their retirement as gaining financial freedom. You can retire from you main career but still do other things that bring in money.
For some this might mean dropping down to part time to free up some time to enjoy life more. For others it might be something completely different. What if you could earn money doing something you actually enjoy? Or what if you could start to put into place a passive income stream now ready for the future?
Being able to generate some income when you retire has a huge impact on the affordability of retiring early. This is partly because, not surprisingly, you have to wait until your statutory retirement age to start receiving your statutory pension. For a couple this is £12k per year (in 2017/18). If you were to retire 10 years early, that’s ten years you would need to be able to cover this pension from your savings if you don’t have an alternative source of income. That would eat into your savings by £120k, or £147k if you factored in the lost compound growth of taking it from your investments (at 4% per year).
3. Do you want to make a large one-off purchase such a holiday home?
This should be pretty obvious, but if you’re looking to spend £300k on a holiday home when you retire, you’ll need to be able to fund it somehow. If you’re retiring early it might be possible to take out a mortgage which would reduce the initial cash outflow. However if you do that you’ll still need to pay back the mortgage at a time when you could otherwise be mortgage free. And don’t forget you’ll have the additional running costs as well.
Other purchases such as a one-off cruise are easier to fund. But whatever you do, you really don’t want to be dipping into your retirement fund for any one-off spend. More specifically after you’ve made your one off purchase, you need to have enough of a pot left over to comfortably achieve the rest of your retirement plans.
The longer you delay a large purchase, the longer you get to benefit from compound interest. But the flip side is of course the longer you go without enjoying the benefit.
4. What lifestyle do you want?
You need to decide what kind of lifestyle you want to have once you stop your current work.
- Are happy to live a simple life and retire a little earlier?
- Do you want to maintain your current lifestyle?
- Or do you want to live a life of luxury with new cars, cruises every year, and season ticket to Chelsea FC in an executive box*?
I look at this more in depth in the article ‘How much income will I need when I retire?‘. The more you spend every year, the more of drain it can be on your investments. Research shows that most couples in the UK would need £26k per annum after tax for a comfortable lifestyle, or £39k for a more luxurious living. Whatever your thoughts, if you’re planning an early retirement you really don’t want to be scrimping to survive every year to survive after a decade of high living. And that is a real possibility if you don’t plan properly.
* anything related to Chelsea is not a wise investment. Reference: Roman Abramovic.
5. Do you want to leave a large inheritance?
The patient is not likely to recover who makes the doctor his heir.
Many people might want to leave a large inheritance to their children or a charity. If your retirement plan sees you eating into your savings then slowly that inheritance will erode every year you live. The perfect solution to protecting your investment is to build up a large enough pot that you can live purely off the growth. There is a rule of thumb that 4% is the amount you could draw down each year from your pension and savings without eroding them.
It may be you feel your property is inheritance enough and that you could dip into your pensions more for your life. The beauty of being able to live off a draw down lower than your investments grow is that your investments will never reduce. You are really maximising all of the work you put in to be able retire. This is the ultimate financial freedom, living off of the interest whilst your investment are safe or even grow!
6. Do you want the security of an annuity and guaranteed income in your retirement?
Annuities don’t make financial sense at all, you are much better off just drawing down income from your investment. The one positive though is that they do give you a guarantee and comfort. The question is just how much do you need that comfort? If you’d enjoy your retirement more knowing you are set up for life and you don’t really want to leave an inheritance from your savings, then you could go down the annuity route. But be warned, you’ll need to save a lot more money. It would almost certainly be better to grow a pot large enough that you could just drawdown from it.
What is important for you in your retirement?
So, you should now have an idea of what you want from retirement and what your target is! I’d recommend you spend a couple of days mulling over the different ways you might be able too live in retirement. Sometimes things we think would be perfect for retirement would in reality not keep us happy.
Next though we need to work out just how affordable all of our desires are and how much of a pension pot you would need to afford them. To do this we will need to work out how much everything we want will cost us.