How to manage your retirement savings in your golden years - Diana Clement

Every retiree has different expectations of longevity, partners and families, savings track records and risk tolerances. Photo / 123rf

THREE KEY FACTS

• There are rules of thumb you can follow to allow your retirement savings to last
• Retirees can draw down 4% in the first year and then adjust annually for inflation
• A higher rate of 6% gives more spending power but means the money won’t last as long

Managing money in retirement is no mean feat. When you hang up your work clothes for the last time, it can be daunting knowing that your savings need to last as long as you do. How can you ensure that, if you live for 30 or even 35 years from retirement age 65, you won’t be living on cold baked beans in your final years?

Fortunately, several drawdown [spending] rules of thumb for retirement savings exist such as the 4% inflated and 6% rules, which help create some structure for spending down savings.

Put simply the 4% inflated rule involves retirees withdrawing 4% of their savings in the first year and adjusting this amount annually for inflation. The model, based on historical market data, aims to ensure a portfolio lasts 30 years or more. For most people, this means their nest egg, no matter how small or large, should last until they’re at least 95, give or take a few years according to various factors and risks.

The 6% rule allows retirees to withdraw 6% of their total retirement savings annually. The money isn’t going to last as long, but research shows that people tend to spend less as they age, said Alison O’Connell, a member of the New Zealand Society of Actuaries who has a background in the pensions industry.

The society’s Retirement Income Interest Group has put a great deal of effort into determining how these and two other rules of thumb work in a New Zealand context, especially for retirees who only have KiwiSaver.

The other two are the fixed-date rule of thumb and the life expectancy rule. The fixed-date rule assumes you want your money to last until a fixed date, such as 25 years after retirement. Each year take out the current value of your retirement fund, divided by the number of years to that date. For those who like spreadsheets, the life expectancy rule involves taking out the current value of your retirement divided by the average remaining life expectancy at that time.

This all sounds simple. But it’s not because there are so many variables, said O’Connell. “It’s a very complicated subject. It’s said it’s the most difficult problem in finance.”

There are some variables that can be controlled. One is that people can work longer and start their drawdown at a later age, said O’Connell. Others can’t necessarily be controlled, such as inflation, and possibly health.

The society’s calculations were made based on money invested in a balanced fund. People can choose a higher growth fund, which should make their savings last longer.

Under the 6% rule income from a growth fund would probably last to age 104, and less than 1% of people are expected to live longer than this. In a balanced fund, it would probably last to age 94, and a conservative fund to age 89.

O’Connell said don’t stress about which rule of thumb to use. “See how it goes, then you can flex [your rule of thumb] if you need to. It just means you’re not taken by surprise. Perhaps things might still happen. You might have to fall back on New Zealand Super, but at least you’ve thought about [the risks].”

With neither rules nor advice from a financial adviser, it’s easy to spend down the capital way too quickly, although there are a few people who have the opposite problem. They don’t spend enough in retirement to live their best lives.

When asked which rule she preferred personally, O’Connell gave a lengthy preamble that no one is typical, and everyone has different expectations of longevity, partners and families, savings track records, and risk tolerances.

All of that said O’Connell said she likes the life expectancy rule personally. “I like the elegance and the objective behind [it] and would happily do a spreadsheet to manage it. But that is not for everybody.”

Recent research by the Society on spending in retirement showed people spent more in the early years and that could favour the 6% rule of thumb, said O’Connell. “The 6% rule looks like quite a good match for how we imagine most people would think about their retirement.”

There are other rules of thumb. The society chose to compare four of the most popular.

Sorted has a useful retirement guide.