The first thing on the road to retirement security is to figure out how much you can spend from your nest egg every year without eventually going broke.
If you bought into a pension, provident and/or retirement annuity fund to make provision for your retirement, the pension will be a percentage of your final salary, called the income replacement ratio (IRR). For most people an IRR of 60% to 80% means that they’ll be able to maintain their standard of living in retirement as they’ll have less debt.
How to achieve an IRR of between 60% and 80% assuming that you’ve no capital saved for retirement
By making a few relatively conservative assumptions and using the annuity rates for males (women need a bit more as they typically live longer than men), the following are rough estimates of the portion of your income you’ll need to invest to achieve an IRR of 60%:
- If you have 40 years left to retirement you must save 15% of your income
- If you have 35 years left to retirement you must save 18% of your income
- If you have 30 years left to retirement, you must save 22% of your income
- If you have 25 years left to retirement, you must save 28% of your income
- If you have 20 years left to retirement, you must save 36% of your income.
Taxation Laws Amendment Act
According to this act, a tax deduction up to 27.5% of income (up to R350 000) is allowed on all contributions made towards a retirement fund. Members of provident funds will also be able to claim a tax deduction on contributions to their funds. However, the conversion of a portion of the retirement money into income at retirement will only apply to new contributions made by those who are younger than 55 on 1 March 2016. Members who are 55 years and older will still be able to take contributions made after the legislation has come into effect as a cash lump sum in retirement.
Inflation after retirement
- As a rough rule of thumb, R1m worth of capital will provide R5,000 of income, increasing with inflation, for 20 years.
- As you grow older, you’ll probably spend more on medical insurance. Comprehensive cover costs more, will consume a larger portion of your budget and will increase each year on average at 4% above inflation.
- You may be less affected by transportation costs, as you’re unlikely to commute as much as when working.
- You may be less affected by the prices of electronic goods, take-away foods and other luxuries, as pensioners typically spend less on these goods.
- You should ideally have paid off your home loan, vehicle and other asset finance, which means you shouldn’t be exposed to changes in lending rates.
- You’ll most likely spend a larger portion of your budget on electricity and be affected by increases in energy costs.