Help, I don’t have enough money to retire

One of the most important findings of government’s study into South Africa’s retirement industry is that only 6% of people save enough to replace their full income after retirement.

In essence, most people are likely to face financial woes a few years into retirement – a grim fact that the financial industry and pensioners have known for decades.

The new two-pot retirement system proposed by National Treasury aims to improve retirement savings.

While the idea that one can access and use a third of your retirement funding at any time seems to defy the object of saving more, the proposal that two thirds are off limits until retirement age is expected to ensure that more people have capital at retirement.

Read: Allowing withdrawals from pension funds to increase retirement savings

Meanwhile, the problem of limited means at retirement will remain until the new regulations have the desired effect a few decades in the future.

You haven’t saved enough

Hildegard Wilson, product solutions actuary at Momentum Investments, gets straight to the crux: What happens when you reach retirement and, when calculating the potential income from your retirement savings, you find you haven’t saved enough?

“Despite the current interventions such as financial education, tax savings vehicles and retirement reform, South Africa’s retirement saving situation has not changed meaningfully.

“With such a bleak picture, some may think it is too late to change their future if they are close to retirement age, but there are always steps that can be taken,” she says, stressing the importance of “budgeting diligently”.

Hierarchy of needs

Referring to the psychologist Abraham Maslow’s well-known hierarchy of needs, she says it’s important to firstly budget for basic needs.

“As Maslow explained, people should first fill their basic needs – psychological needs such as food, water, warmth, rest, and security needs – before they fill their ‘need’ for luxury items or experiences, such as an expensive outfit, an evening out or a dream holiday. This hierarchy of needs can help us not only understand ourselves, but also how people save,” says Wilson

“Financial savings, for example, only become a ‘need’ after your more basic needs such as food, security and clothing have been covered – but in South Africa, the prices of many basic goods have increased unreasonably when compared to salaries, which makes it hard for most of South Africans to plan for their retirement.”

Read: Early access to retirement funds at least a year away

When planning for your retirement, it is still important to first budget for basic needs before moving further up the hierarchy.

“In this way, if you are short of money in your retirement, you can prioritise the money you do have to ensure that your essential needs are met,” she says, mentioning that high inflation can have dire consequences.

Take inflation into account

When salaries keep up with inflation but a person’s expenses increase by more than inflation, a higher proportion of their salary will have to be allocated to expenses. For example, if you spent 2% of your income on electricity in 2011 and your salary increased by inflation, you will have spent 4% of your total salary on electricity in 2021 – the price of electricity increased by some 8% more than the inflation rate each year over the last 10 years.

Read:
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The same argument holds true for several other products and services, which will result in a sharp fall in  disposable income after covering basic needs.

Wilson provided a simple budget to illustrate her point.

Effect of inflation on disposable income
	% of 2011 salary	Price increase above inflation	% of 2021 salary
Groceries	20%	1%	22%
Housing	25%	1%	27%
Electricity	2%	8%	4%
Medical aid & expenses	10%	4%	15%
Petrol & transport	5%	1%	6%
Education	10%	3%	13%
Total main expenses	72%	N/A	87%
Disposable income	28%	N/A	13%

Source: Momentum Investments

It is not difficult to understand that people find it difficult to save enough for their retirement.

“Looking at the above scenario, we see that disposable income has more than halved in the past 10 years,” says Wilson.

“With less disposable income to put towards non-urgent needs, this has put significant pressure on people trying to save for retirement.”

What to do?

There are several options when it comes to addressing the problem of not having a big enough retirement fund.

The first solution is to make additional contributions to your retirement savings – but if that’s not possible, says Wilson, there is another option.

“When retiring, many people opt to take as much of their hard-earned retirement savings in cash as possible. However, the truth is, you’re more likely to burn through cash if you have free access to it.

“Compound interest can create significant wealth. For example, if a modest investment return of 8% per year can be achieved and interest is reinvested, your investment will double in just nine years,” says Wilson.

“When discussing this with people, I try and simplify it. Either you need to earn more money to pay expenses, or you need to reduce your expenses to fit your income. Otherwise, you are going to run into trouble at some point.”

Delay or ease into retirement … 

She also suggest delaying or easing into retirement. “The current retirement age of 65 was set in the late 1800s and aligned closely to the average life expectancy of people in that era. Is this age still appropriate more than 100 years later, given that many people seem to live longer than previous generations?

“Each person’s retirement date should be as personal as any other financial decision. Consider whether it is possible to start a second career, or to consult on a part-time basis.

“If retirement can be postponed from age 65 to 70, more than a 10% increase in income can be achieved from a life annuity,” according to Wilson.

“Fewer and fewer people are emotionally ready to retire at the age of 60 or 65 as they are healthy and mentally able to continue work. Also, people are living longer these days.”

“I would like to see companies offering retirees options to continue to work part time, especially if there [are] not sufficient savings.

“Maybe an income from a hobby will help, but not everyone is able to earn sufficient income from their hobby, while they are highly skilled at their job,” she says.

Reduce withdrawals

Wilson notes that while most people can’t absorb an immediate drop in income after retirement, there is a risk associated with drawing too large an income from pension funds immediately after retiring.

“However, with coaching, most people are able to lower their standard of living over time, in much the same way people tend to increase their standard of living when they get salary increases. To do this, people would need to gradually reduce their drawdown level to a sustainable level by slowly cutting back over time.

“This is a risky option as the retiree will be exposed to risk such as sequencing risk. This is where a large income amount is withdrawn while markets and the retirement investment are low. In this scenario, a proportionately higher percentage is drawn from the retirement fund during market downturn compared to when investment markets are high,” she says.

Downscaling on time

Planning for retirement is also about planning for a change in lifestyle timeously. A lot of people hold on to big five-bedroom homes years after the kids left home, which includes excess furniture and unnecessary and maintenance and insurance costs. Sometimes people own too many cars.

“Retiring is incredibly emotional,” says Wilson. “I think people try and keep some sense of normality. However, the older you get, the less mental and emotional capacity you have to sell the family house and cars and furniture.

“It costs a lot of money to live in a big house. One should start as early as possible to downscale. The trick is to also save any extra cash.

“We have seen in our studies that, similar to people increasing their standard of living after a salary increase, people are able to reduce their standard of living. It just takes a bit of time,” says Wilson, noting that there are ways of simplifying life and substituting expensive habits for more cost-effective ones.

The truth is that most people will live another 20 to 30 years when retiring after their 65^th birthday. Depending on investment returns, a new pensioner needs at least R1.3 million in their retirement fund to earn a monthly income of R10 000 for 20 years, without the benefit of the income increasing with inflation (based on an investment return of 7%).

In reality, everybody would like their income to increase with inflation, and financial markets do go up and down.