This article was written for and first published in Private Client Adviser
With many people having to wait until 68 for their State Pension to begin paying out, the concept of early retirement is looking less and less achievable for many people. So, if your clients are banking on the good life when they retire (at whatever age), make sure they’ve got all their ducks in a row early, says Joe Hawes, Chartered Financial Planner with CBW Financial Planning Limited.
Let’s face it – whose clients don’t dream of early retirement? For many, just knowing that they could retire at age 55 – even if they ultimately decide not to – can make those final years of work much more enjoyable and less stressful.
But, sadly, there are no short cuts to funding a comfortable retirement (without a lottery win, of course). For all but the most wealthy, the likelihood is that most people will go through their careers with a number of different employers, collecting an array of different pension plans and investments – possibly acquiring investment properties or other wealth along the way – but never really knowing where it is all leading or what they should be doing with it.
And this is the crux of the matter: if early retirement is to be a realistic aspiration, what’s needed is a well-planned campaign of wealth management across a balanced portfolio of savings and investments.
A good team of professional advisers will help their clients to focus on their preferred target retirement date, tailoring their financial planning advice to the time frame available, not only taking into account the client’s ambitions for those delightful, work-free years when they arrive but also – crucially – for managing their finances throughout retirement.
There are various computer based cashflow planning programmes available, one of which we use at CBW Financial Planning. This tool helps identify every possible source of income, wealth, property, debts and anticipated expenditure for clients and encourages them to set realistic targets and goals for the future. This helps them to see if they are on track to meet their long-term objectives, where the shortfalls might be, and helps them put in place plans that should get them to where they want to go.
A flexible and regularly reviewed long term plan can help clients to reach retirement in a comfortable financial position, but shouldn’t stop there. The transition from wealth accumulation to income generation when retirement arrives requires further help and advice, particularly as patterns of expenditure may well change, necessitating a shift in approach or a re-evaluation of appropriate levels of investment risk.
So what individual elements make up a good financial plan?
It might sound slightly counter-intuitive, but early retirement needs to be a long term project. It is very obvious that saving earlier in a career should make it possible to accumulate ‘enough’ in the pot sooner, and the ‘little and often’ approach embeds the savings habit early on. I don’t advocate clients having too specific a plan in their 20s and 30s, the timescales are too long and the variables too vast to make detailed retirement planning worthwhile, but starting to build the pot early on will certainly help later.
Investing £100 or £200 per month at the start of a career and increasing this every year, or with every pay rise, means clients shouldn’t have to invest quite as much in their 40s and 50s when the detailed planning can begin in earnest. It can also reduce the shock of creating a plan, only to discover that they need to save an unaffordable amount when they already have a number of calls on their income, whether that be a mortgage, education fees, or particular lifestyle expectations.
This may be obvious, but it’s also worth repeating: arriving at retirement mortgage free means your clients will need to find less income to live off. This is also worth remembering in relation to investment properties: a mortgage that sucks up all their rental income won’t leave much spending money. Selling investment property to repay a loan could lead to a large Capital Gains Tax bill if property has been owned for a long time, and therefore put a significant dent in long-term plans.
A comprehensive cash flow plan will help to show whether paying off debts early, and investing the saved repayment instalments, generates a better ‘return’ compared to investing a lump sum immediately and continuing to service debt. The effects of different interest rates can also be modelled; this can be especially illuminating whilst rates are so low, as they must surely increase in the future.
There’s no point encouraging your clients to hope for the jet set lifestyle in retirement if they haven’t been huge earners or amassed fortunes from other sources. That elusive lottery win or the long-lost rich aunt are unreliable planning options.
In the unfortunate event that clients aren’t able to reach their early retirement goals, good financial planning might show that partial retirement is possible, or that although retirement at, say 55, is not possible, 60 might be still be a realistic target.
The reverse is also true: a good plan may sometimes show that retirement is possible earlier than a client envisaged, that a higher level of income can comfortably be generated, or that the investment returns needed mean a more cautious investment approach can be followed, reducing the risks within a long-term investment plan.
Investment should be a long-term strategy and, although a plan must be flexible, investors who change tack regularly risk spending all their investment returns in costs and fees. Also, trying to ‘time the market’ is almost certain to end in misery as no-one can consistently and definitively call every market peak and trough. JP Morgan’s ‘Guide to Retirement 2015 Edition’ provides data showing that investing in the US S&P 500 Index continuously for 20 years from January 3rd 1995 to December 31 2014 would have generated average annual returns of 9.85%. Missing just the 10 best days reduces the annual return to 6.10%. This could have a hugely detrimental effect on retirement plans.
Although this example is based on US data, the message is clear: timing the market can be bad for your clients’ wealth. Asset allocation across a range of different sectors and investment types, with a long-term buy and hold strategy, is much more likely to yield the desired results.
Think ahead. Be flexible
The ultimate goal for any long-term financial or retirement plan is for enough money to be available at the right time. So, plan ahead in the final years before retirement: if there is likely to be a need for large capital expenditure at the point of retirement (for example, repaying a mortgage or purchasing additional property), then the required amount should be moved into less-risky investments as the retirement date approaches. The same applies for the first few year’s retirement spending.
Personal pensions have long adopted an approach of ‘lifestyling’ – switching to cash and gilts in the five years before retirement to protect wealth in this vulnerable period. A good financial plan will adopt a more sophisticated and personalised approach, designed to meet a client’s specific needs.
This may also require tax planning in conjunction with an accountant, for instance spreading asset sales over different tax-years to maximise tax allowances, or implementing an exit strategy from a business or employment.
Planning the time to retire should be relatively controllable and predictable for most people. But pre-empting regulatory and legislative changes is as difficult as timing the markets. To begin with, state pension age is moving further and further into the future for many of us. As a further example, since December 2014 we have had four Budget speeches. This has led to significant changes in the pension landscape and tax reliefs on property income. Depending on an individual’s unique circumstances, these may have been more or less beneficial, but they were certainly unpredictable. The best way to guard against this is to spread investments amongst a range of different investment vehicles.
Concentrating solely on pension investments, for instance, could have left a client’s plans undermined by recent reductions in the Lifetime or Annual Allowance contribution limits. Utilising a selection of pensions, ISAs, property and setting aside cash for the early years of retirement is one way to hedge against unforeseeable legislation and taxation events.
To retirement and beyond
Reaching their retirement date with a sufficient range of assets to provide for the rest of life is only half the story for your clients. Those retiring at age 60, or even 70, can reasonably expect to live a further 30 years, or even more. This means that the post-retirement investment period may be longer than the accumulation period.
Although personal pensions can be drawn at any time from age 55 onwards, State Pension or occupational pensions might not start until well into retirement, so it may be necessary to increase the income taken from other sources in the early years of retirement to offset this. A cash-flow plan will help ensure this doesn’t cause shortfalls in the later years.
Some people might not want the pressure of buy-to-let property ownership late in life, or a plan might highlight that property needs to be sold by a particular age to realise a capital sum. Again, this should be relatively predictable and so can be planned for.
The wealthy will want to make gifts to their children or undertake estate planning and inheritance tax planning, so financial planning during retirement needs to ensure that this is done as neatly as possible, with clients able to help the people they want to see benefit from their wealth, while limiting the risks of running short themselves and being a burden on others at the end of their lives. Working in conjunction with solicitors and accountants can help ensure this is done tax efficiently (capital gains tax or income tax), that trusts are correctly structured, and that end of life instructions and wills accurately reflect an individual’s wishes.
Take everything that’s offered
There are no free lunches when it comes to financial planning for retirement, and every client will need to do the majority of the heavy lifting themselves. That said, there a few opportunities that everyone should make use of along the way – many of which have already been mentioned above. Firstly, do not overlook occupational pensions and auto enrolment. It may not provide much, but if an employer does not offer alternative remuneration to someone who doesn’t join their company pension scheme, then I view not joining as turning down free money.
Tax reliefs should always be utilised where possible. This applies to pension contributions, ISA allowances, or VCT and EIS investments for high earners. Similarly, husbands and wives should ensure ownership of assets is split between each spouse, and ISAs and pensions are accumulated in each spouse’s name, making sure that tax allowances and rates are used to the best advantage.
As professional advisers, our role is to identify the opportunities open to clients, highlight the pros, cons and potential hazards of each alternative, and help them make the decisions that are best for them, at every stage in life. We should always review plans with clients at appropriate intervals, checking progress and making adaptions where there have been changes of goals or financial circumstances. And for the ultimate in service excellence, working together with a client’s other advisers means they are most likely to reach their early retirement targets, not just dream of them.