The freedom and excitement - and the challenges and pressures - of being your own boss can easily keep your focus on the day-to-day. However, long-term financial planning warrants as much attention as short-term, urgent matters.
Life expectancy is increasing, due to developments in medical technology and a renewed focus on healthy lifestyle choices. Therefore, it’s important to prepare for a longer period spent in retirement. We consider what to keep in mind to ensure financial comfort in your golden years.
How many drops will fill the bucket?
As with many things in life, the question is “How much is enough?” Lizl Budhram, head of advice at Old Mutual Personal Finance, cautions against applying general statements about retirement to your unique situation. “It is not a one-size-fits-all type of question,” she says.
People view retirement differently. While some want to remain operational as long as possible, only providing for the eventuality of not being able to work, others might want to scale down, or stop working and go back to studying at 55, Budhram explains.
“Other factors to consider are how much debt you have on the day you retire, and whether you are responsible for your dependents’ tuition fees and living expenses.”
Katlego Mei, Para Planner at Galileo Capital, agrees that you need to consider your specific circumstances, as well as tax and inflation, to calculate the capital you require. “This amount needs to be worked out as accurately as possible, while you still have time to address possible shortfalls,” he says.
The perfect plan
The ideal retirement plan is a fluid concept, and you need to assess and adjust your goals frequently. Budhram advises that you should start saving on the day you receive your first income.
“While it’s important to choose appropriate savings vehicles and suitable investment funds, and to keep an eye on costs, none of these considerations are as important as making sure your investment term is as long as possible.”
Mei suggests that retirement annuities (RAs), in the form of private pension plans, tax-free savings accounts, and/or unit trust investment accounts, are a good option for the self-employed.
The advantages of RAs are mainly tax related. The contributions can be deducted from your taxable income, and no tax is payable on the dividends, the interest earned, or the capital gains accrued within the fund.
After the age of 55, you are also allowed to take out a lump sum, tax-free. You can either make contributions as and when you have funds available, or you can invest a fixed amount at fixed intervals.
Tax-free investments have a maximum annual contribution limit, and a lifetime limit. The money is easily accessible, which is not the case with an RA. However, the lifetime contribution limit is fixed, which means that money withdrawn from a tax-free investment cannot be replaced.
The cost of cashing in
Rainy days will inevitably come around, and it will take a lot of discipline not to dive into your savings account or even your tax-free investment. The retirement annuity restrictions, which do not allow you to access the funds before the age of 55, can help to safeguard you against impulsive or desperate actions. Other RA regulations limit exposure to risky assets, further securing your savings.
“The most common mistake people make when saving for retirement, apart from starting too late, is accessing and using their savings when they change employers,” Budhram says.
Mei recommends only taking what is needed to cover a few months’ expenses as a lump sum, and saving the rest in a preservation fund.
Paying off your bond might be an excellent investment, but it will not generate a monthly income unless you plan to rent out a large part of your property, or sell your house and downscale to free up some of the capital gained. Taking money from your retirement investment also cancels the effect of compound interest, often referred to as the “eighth wonder of the world”.