In these straitened times, the cost of providing an income after finishing full time work is not, I suspect, fully appreciated by many people.
Although volumes have been written on the topic already, recent economic upheavals have brought this problem into extremely sharp focus indeed.
Some resolutely held myths, that need to be removed, persist. The first of these perhaps is that the state will continue to keep you in the style to which you have become accustomed.
The second is that you can pass on a pension scheme to your children when you, yourself, have passed away.
And finally, that the cost of running your life will reduce once you are not going out to work and the children are firmly established in their own fields of work. All these are illusions that have no basis in reality.
However, the new realities are all too plain to see. Firstly, we are all living much longer. Someone aged 60 today, for example, will have a one in three chance of living to aged 90 if they are a male and a one in two chance of doing so if female. So many face the real prospect of running out of money in their old age. The various stages of ‘so-called’ retirement show that at the beginning you will have any pension, plus a meagre amount from the state and whatever savings you’ve managed to build up, to live on.
But as you get older your resources will dwindle and you will actually be left with a very poor income. The main reason for this is that when you come to turn your pension fund into income you face a very difficult decision. Look at the following example:
Take a couple — Mr and Mrs Average — with about £200,000 in their pension scheme. At age 65 they can extract £50,000 of tax free cash and the remaining £150,000 must be used to buy an income.
Being married, Mr Average wishes to ensure that his wife will be looked after if he dies first. So he arranges to have a spouse’s pension built into the plan. This will reduce the amount he had to start with. He then faces a real headache. What should he do about inflation? To see just how important this is imagine a starting income of £10,000 per annum.
If the government’s inflation target of 2% were to be met, he would find that at age 75 his pension was actually worth £7,500 per annum.
If however, inflation were to remains at today’s figure, he would find that over the same period it would be worth a mere £6,000. A drop in spending power of this sort could create real hardship.
Now Mr Average could have built an increase into his pension, but this would have reduced the starting figure from £10,000 a year to £7,500 and meant a severe drop in initial living standards just when this couple thought they would be enjoying a comfortable retirement.
Enough of the doom and gloom. Regular readers will probably guess that I have a solution to help this couple and solve their financial dilemma. We are all aware that there is a tax free, lump sum available from a pension. Could this be invested to help our Mr and Mrs Average?
In theory ‘yes,’ but the problem is that very few financial plans provide:
- a rising income
- protection for the spouse and
- return of capital on eventual death.
There is one company that has come up with a unique solution, which will allow Mr and Mrs Average to take an income with the highest starting level, but provides an additional and rising income from age 75.
And the unique feature of this plan is that it does not need a huge amount of initial investment. So, if Mr & Mrs Average were to invest £25,000 of their tax free cash it would add another £3,700 per annum, and rising, to their income.
Their standard of living will therefore be maintained for very little up front capital cost and something will still be left for passing on to the children.
As usual this is merely a ‘snapshot’ of the best plan I have seen — certainly in recent years — to help the hard-pressed person faced with the retirement question.
Nicholas Watts is an independent financial adviser with Positive Solutions Financial Services which is regulated by the Financial Services Authority. To contact him, use the website www.realwealthmanagers.co.uk