Before I start and lose you right at the beginning, this is not a blog about Brexit.
It is, however, a blog about a revolution, the revolution in retirement planning.
In the golden age, your employer provided you with a defined benefit pension, you worked until a fixed age then retired on an income made up of two-thirds of your final earnings. Well that is how it was described.
Once retired you merely had to cut your spending to meet your lower income. This was easier as a result of having no mortgage to pay, the children having flown the nest, and incurring no more commuting costs. Ah bliss… everything was perfect with the world.
Well it worked that way for a few. The vast majority did not work for employers that provided pension schemes, others were in pension schemes that did not provide very good benefits, and that ignores those who for one reason or another had long periods of not being in employment.
From the DWP estimates of the take-up of income-related benefits, in 2016/17 there should have been three million pensioner households claiming Pension Credit. That’s three million pensioners effectively living in poverty with many more just above that threshold.
Hardly a success story for the pension system in place during their working career. Of those three million, 1.2 million are not claiming the benefits they are entitled to.
Things have moved on since the ‘golden age’. Employers have replaced defined benefit pensions with defined contribution pensions often with lower contributions than those required to provide similar benefits. Before the introduction of the pension freedoms, often those defined contribution pensions were converted to income at retirement using an annuity.
The target of a two-thirds working income in retirement is being reached by a smaller proportion of the retired population. Which raises the question, how easy is it to move to a much lower income?
Try this simple exercise with your clients. What is your household income now? Remove mortgage and commuting costs from your regular expenditure. Now take off the cost of the children. Basically, on the face of it, that is how much income you will need to retire on to maintain living standards.
We are however missing something. How many hours a day do they spend working/commuting? When retired how will they use that time? How much will they spend that they do not spend now in that time? You need to add in extra expenditure for that.
If retirement is going to be a 52-week holiday every year how much will be spent? How much will they need? Will they have enough savings by the time they retire?
No easy task
We are showing here that planning retirement income is not easy. So, let us make it more complicated. How long will the client live? An average 65-year old can expect to live around 20 more years. The problem is that no-one is average – DNA, lifestyle and other issues will affect the length of an individual’s life expectancy. Around 10% of 65-year olds will live beyond 100.
With this longevity uncertainty, how much can they afford to spend? Will their savings have to last 20 years or more than 35 years? Assume the former and the consequence could be several years in poverty. Assume the latter and they could die leaving much more than they intend.
How much do they want to leave to their children and grandchildren? Some academics believe there is a wall of money that could be spent to boost the economy for the benefit of younger generations if retirees gave less emphasis to leaving money to their descendants. Is it that simple?
Potential legacies can act as a guarantee to prolonging living standards should the person live to the extreme of their potential life expectancy.
What the above all overlooks is that those who reach retirement often hold more wealth in housing than retirement savings. Around 70% of pensioners own their own home. Will, when and how, will that wealth be used in retirement are other variables that can be introduced into the equation.
With all these issues retirement income has unfortunately become as complicated as Brexit. So how do individuals take back control of their retirement? Everyone is different they will have different circumstances and priorities.
To take back control, the individual needs help to understand what their circumstances are, how different actions will affect them, and help to determine their priorities. This should form part of an adviser’s strategy to know their customer for retirement income planning.
Bob Champion is chairman of the Air Later Life Academy