How to effectively plan your retirement early
In this article, PRINCESS ETUK explores the four per cent rule and provides a retirement plan that will help you enjoy life after work
A retirement plan is a roadmap to a comfortable life after work. It entails accumulating enough money to pay for the lifestyle you want to enjoy in the future. Your retirement plan may change over time, but the earlier you get started the better. A retirement plan is your preparation for a good life after you are done working to pay the bills or at least done working a full-time job. It is not all about money.
The non-financial aspects include lifestyle choices, such as how you want to spend your time in retirement and where you will live during this period. The goals for your retirement plan will change in focus over time. Early in a person’s working life, your contribution to retirement savings may be modest. The reward is 40+ years of investment growth.
Also, during the middle of your career, when your income may be at its peak, you might set specific income or asset targets and take steps toward achieving them.
Once you reach retirement age, you go from accumulating assets to what planners call the distribution phase. You are no longer paying into your retirement account(s). Instead, you start collecting the rewards of decades of savings.
A key part of retirement planning is to answer the question: How much do I need to save to retire? The answer varies by individual, and it depends largely on your income currently and the lifestyle you want and can afford in retirement. One rule of thumb is to save 15 per cent of your gross annual earnings every year. In a perfect world, savings would begin in your 20s and last throughout your working years.
Knowing how much you need to save based on how old you are now is just the first step, but it starts you on the path to help you reach your retirement goals.
Many retirement experts recommend strategies, such as saving 10 times your pre-retirement salary and planning on living on 80 per cent of your pre-retirement annual income. In other words, if your retirement income is N100,000, you will require at least N80,000 annually to maintain a comfortable standard of living once you leave the workforce. This amount can be adjusted up or down depending on additional sources of income, such as pension and part-time employment, as well as factors like your health and desired lifestyle.
The four per cent rule
This rule suggests that retirees should spend no more than four per cent of their retirement savings each year to ensure a comfortable retirement.
To determine how much you will need to save to generate the income that you need. One easy-to-use formula is to divide your desired annual retirement income by four per cent, which is known as the four per cent rule.
Generally, the four per cent rule assumes that you will live for 30 years in retirement. Retired adults who live longer need their portfolios to last longer because medical costs and other expenses can increase as you age.
As you start contemplating retirement, it is important to consider the factors that will shape your retirement objectives. For instance, think about your family plans. For many, having a family is a significant life goal, but raising children can significantly impact your savings. Your retirement planning will therefore be influenced by the type of family you envision.
It is also important to consider your retirement lifestyle, including any changes to your home or place of residence. Many people dream of travelling during retirement, and while that can be an exciting prospect, extensive travel can deplete your retirement savings much more quickly than staying at home.
After considering these factors, here are the next steps for planning your retirement:
Define your time horizon
Your current age and your anticipated retirement age are key to crafting a successful retirement plan. The longer the gap between now and retirement, the more risk your portfolio can handle. If you are young and have over 30 years before retirement, you can allocate a significant portion of your assets to riskier investments like stocks.
To build a solid retirement portfolio, you need to establish realistic expectations for your post-retirement spending habits. Many people assume that they will need only 70 per cent to 80 per cent of their pre-retirement income, but this may not be accurate.
For instance, if you face unexpected medical bills, you could need more than you planned. Additionally, many retirees tend to spend their initial retirement years travelling or ticking off bucket list items, which can also drive up costs.
Retired adults are no longer at work for eight or more hours a day, they have more time to travel, go sightseeing, shop, and engage in other expensive activities. Accurate retirement spending goals help in the planning process, as more spending in the future requires additional savings today.
Evaluate risk tolerance in relation to investment goals
Whether you manage your investments or work with a professional advisor, achieving the right portfolio balance that aligns risk aversion with return objectives is crucial in retirement planning. How much risk are you comfortable taking to achieve your financial goals? Would it be prudent to allocate some funds to risk-free Treasury bonds to cover essential expenses? These are the questions you need to address to create an effective retirement portfolio.
If you are young and curious about the advantages of early retirement preparation, there are a few tips that may help in planning;
Starting early is more manageable
Saving for retirement is generally simpler when you are younger. During this stage, you likely have a higher disposable income and fewer responsibilities, allowing you to allocate more toward your retirement fund. Plus, insurance premiums tend to be lower when you are younger and healthier, further reducing costs and enabling you to save more.
In contrast, as you age, your financial obligations often increase, potentially making it more challenging to set aside money for retirement. Thus, beginning your retirement planning early not only eases the process but also helps you build a more substantial retirement fund over time.
The advantages of compounding
Compounding is a powerful tool for growing your retirement fund. It involves earning interest on previously earned interest, which amplifies your returns over time. By starting to invest early, you can leverage compounding and let your investments grow for longer periods. The impact of compounding can significantly increase the size of your retirement nest egg by the time you approach retirement age.
Plan for emergencies
Financial emergencies can arise without warning, making it crucial to plan ahead. This is why having a solid financial strategy is key to managing unexpected expenses. It may get harder to provide for your family financially as you get closer to retirement, and handling emergencies may become more difficult. Additionally, as you age, health problems frequently surface and could increase your financial burden. Your retirement savings can help you cover these unexpected costs, providing a safety net during uncertain times.
Ensure financial security for your dependents
Retirement can bring financial uncertainty, especially if you are responsible for supporting your family. This is particularly true if you have dependents and you are the only source of income for the household. Planning for retirement can help you meet these challenges and ensure that your loved ones are taken care of.
One effective strategy is to invest in a life insurance retirement plan, which can offer financial security to your dependents in the event something happens to you.
