29th June 2016 at 4:00pm
Most of us need savings for 20-30 years of retirement.
We need enough to live on to cover daily expenses, hobbies, holidays and healthcare. But we also need it to last.
It’s a balancing act. And it’s one of the biggest financial challenges many of us will have to face in our later years.
The good news is that there are ways you can help achieve this with some careful planning and the right information.
We’ll guide you through the crucial information you need to do this.
How to make your pension money last
There are two important steps you can take to help make your pension money last:
- Firstly, understand the three main risks to having the income you need or want in retirement.
- Secondly, make sure you’re in the right investments to help protect your money from these risks.
Three risks you need to consider
If you understand the risks that could lie ahead, you can make sure you’re prepared to tackle them.
1: inflation and living longer mean you need growth
Leaving your money in cash is a risk when it comes to having enough income to keep up with the cost of living and last the length of your retirement – which is an unknown.
Inflation is currently only 0. 3 per cent but it’s been significantly higher in the past. See Bank of England May 2016 Inflation Report for more detail.
Even a 3 per cent average rate of inflation can almost halve the spending power of your pension savings over 20 years, according to our analysis. And most people underestimate how long they’re going to live.
The need to grow money in retirement is one of the main reasons people who want to take a flexible income decide to leave it invested rather than put it in a bank account.
Choosing flexible income, also called income drawdown, gives your money the chance to grow because it’s still invested but also allows you to take regular income, withdrawals when you want to, and to leave an inheritance in a tax-efficient way.
But if you do this, make sure you’re aware of the next two risks.
2: withdrawing income in falling markets can magnify your losses
If you take money out of a higher risk investment when markets have fallen, the impact of your withdrawals could be magnified and lead to your pension savings running out faster. This is something to bear in mind right now, given the ups and downs of the financial markets.
This is because taking a flexible income or income drawdown often involves withdrawing a fixed amount at regular intervals, a bit like paying yourself a salary in retirement.
If the value of your investments drops then that fixed amount becomes a larger proportion of what you’re taking from your overall savings.
3: big falls in the early years of retirement can reduce how long your pension savings will last
This is particularly true if the value of your investments falls in the early years of your retirement. It could dramatically reduce how long your pension savings will last.
This is because – on top of any magnifying impact I’ve described in risk two – it’s harder for the investments to catch up when you’re no longer paying money in.
In fact, research suggests that the return you make on your investments in the first few years after beginning withdrawals is likely to have the biggest impact on how long your pension savings will last.
Choosing investments that mitigate the risks
Any investments you choose need to carefully manage risk. This helps to protect the income you need in the short term but takes enough risk to help your pension savings last long enough.
Managing how much investments move up or down in the early years of your retirement is very important, as it can ‘make or break’ your pension savings.
It’s all about balance: protect and grow
There are a number of investment strategies to help you do this.
One of these is to have a mix of carefully managed growth and lower risk investments for your short and longer-term needs.
With this approach your money would go into:
- lower risk investments for spending today – and to help protect against the early years’ risk, and;
- medium risk investments for the longer term – the money you’ll need in the future has the chance to grow and could last you longer.
Plan sooner, not later
The most important message I can leave you with is this: don’t leave planning your retirement income until it’s too late.
It makes sense to check now that your pension investments are on track to meet your needs and your goals:
1.First of all, how much income will you need in retirement? You can work this out using our ‘Retirement – How Much May I Need’ calculator here.
2. Think about what you’re likely to do with your money when you retire.Will you buy an annuity? Withdraw it all? Leave it invested? Or do you want to do a bit of all of these?If you’re not sure yet what you want to do, consider talking to an adviser or read more about the pensions freedoms and considerations here.
3.Check that where your pension is invested is aligned to what you want to do in retirement. This is particularly important as you get closer to retirement.
4. If you’re already in retirement and you’re invested, check what you’re invested in. Is it designed to help shelter your money from significant volatility, especially in the early years of your retirement? Is the money you need for income in the short term invested in lower risk investments?
5. And keep checking that the income you’re taking is sustainable and likely to last as long as you need it to. You may need to consider adjusting how much you take.
6. Last but not least, you may want to take financial advice to help you with your decisions.
If you remain unsure about your options after the 2015 pensions freedoms, you can learn more here in our Pension Changes Explained video.
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A pension is an investment. Its value can go up or down and it may be worth less than you paid in. Investment returns aren’t guaranteed. Past performance is not a reliable indicator of future performance. This blog and any responses are not financial advice.