"How much money do I need to retire?"
This is the most asked question to any financial planner in Australia – and the answer is always:
There is a reason for this ambiguity.
It really does depend on who you are, your expectations, lifestyle and habits.
In its simplest form retirement is a point where your passive income (that is income you did not have to work for) covers your expenses (what you need to live), removing the need to work to survive.
For most people this is stopping work altogether, although there is an emerging trend of retirees who stay in the workforce or volunteer for the social benefits or self-esteem it may bring, as well as some extra pocket money.
Your expenses will largely drive your ability to retire – the more you spend, the more income you will need to generate. The more income you need to generate the more investments you’ll need.
Most expenses can be broken down into Home, Core Expenses and Discretionary/Fun
For most people a roof over their head is simply owning their own home. An increasing number of retirees are starting to ‘pull up anchor’ – and un-restrain their living environment, whether that be in a caravan, or simply by renting where they want to live. In order to do that, you just need to generate enough income to pay rent.
Once you have your home expenses covered, your financial risk is greatly reduced – relieving you of having to stay in a career you hate or working long hours.
Your core expenses are the things you need to live. These differ from person to person but usually include food, utilities, transport and Netflix.
Once you have your HOME and CORE expenses covered you have a strong sense of financial independence, and really the only reason you need to go to work is FUN.
DISCRETIONARY & FUN
This is the nice to haves, the holidays and the extra things in life. If you can generate enough income to pay these too, you are definitely able to retire!.
The next thing to consider in retirement is your expectations of retirement and how long your money will last.
In Scenario A, your passive income is greater than your expenses so your investments grow.
In Scenario B, your passive income is equal to your expenses – you live on your investment income, so you're investments stay the same.
In Scenario C, you are drawing down into your investments in order to live, so they decrease over time.
There is no right or wrong scenario here – however when asked the most ideal outcome, most people like Scenario A for the growth of their wealth, but would prefer to live on more income and have a Scenario B, or even C if their money will last long enough.
So how much money do you need - The rule of 5
As a quick reference point I use a ‘rule of 5’. That is 5% of total assets is a sustainable income to obtain from a strong, diversified portfolio, without drawing down on the balance.
So if you need:
Living Expenses of $30,000 – You’ll need $600,000 in investments.
Living Expenses of $50,000 – You’ll need $1,000,000 in investments/super.
Living Expenses of $80,000 – You’ll need $1,600,000 in investments/super.
The more you need to live on the more investments you’ll need to retire. These investments could be shares, property or your superannuation if you are over 60.
The less you live on, the more you could save, the faster you could get there.
Retiring in 15 years
Almost anyone can retire in 15 years – they just need to get the right mix of spending and saving (and the motivation!).
If you start at $0 in the bank, and you live on 55% of your income, saving the other 45% into an investment for 15 years, at an average return of 6.65% you will have enough in your investment for a Scenario B from my explanation above. This works with any number, as it is just mathematics.
If you have money to start with, such as existing Superannuation or shares, then you are already on your way!
For most people this is a huge leap, but for those that want it it is not out of reach.
It just takes a shift in thinking, patience, creation of positive habits and of course, advice!
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