How much should you save

27 November 2012

Will you have enough money to retire? How much should you be saving to live comfortably in your golden years?

The retirement lump sum

In order to retire comfortably it is estimated that we need a retirement income equal to 60-75 per cent of our final salary. To meet this requirement on the day you retire you will need to have savings worth about 16 times your annual salary. So, if your annual salary in the last year of working is R500,000, you would need investment assets of R8 million in order to generate an income equal to 75 per cent of your salary.

The three key drivers for achieving your savings goal are:

1. How much you save;

2. How long you save for; and

3. The return you earn on your investment.

How much to save?

If you are close to retirement it is easier to calculate how much you need to be saving to reach your goal and your financial adviser can help you.

Younger savers can follow these guidelines, based on retiring at the age of 60:

25 – 15 per cent of your salary
35 – 25 per cent of your salary
45 – 47 per cent of your salary

How long to save for

The only way to save for longer is to keep working. If you are able to work until the age of 70 you will improve your retirement savings significantly. For example, if you start saving only at age 40, and want to retire at 60, you will have to save a massive 43 per cent of your salary each year. If you delay retirement to age 70 you need to save only 18 per cent of your salary. Working longer also adds to your vitality and longevity.

If you can’t keep working, limit the withdrawals made from your retirement savings. In the first five years of retirement it is critical that you try to keep your capital intact. While there is a temptation to draw the maximum amount, rather tighten your belt until you are 70 by limiting your withdrawal to around three per cent. Most funds deliver a return of three per cent after expenses and inflation so, by limiting your withdrawal to only your real return, your retirement funds will last longer.

Impact of investment returns

It is important to invest in a fund that provides a decent return after inflation. That means the fund must include growth assets such as equities and property although the government has legislation limiting the amount of equities you can invest in to 75 per cent.

The “rule of thumb” percentages assume that you are invested in a balanced fund that produces an after-inflation return of four per cent.

If you invest in a more aggressive fund with a real return of five per cent you will need to save 12 per cent of your salary. However, you would need to be comfortable with the higher volatility that this fund would bring.

If you select a more conservative fund with a real return of only three per cent, you would have to save 18 per cent of your salary from age 25.

Given that we are entering a period of lower expected returns it is most realistic to target a real return of four per cent. Any returns above that should be seen as a bonus.

For more pension financial advice it is worth discussing your financial situation with a registered Certified Financial Planner.

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