Exploding retirement income myths

explosion small
  • Author : Just
  • Date : 24 Mar 2021

For adviser use only.

Is drawdown really the only way for your clients to take more income in the early years of retirement?

Old world thinking in the business and commercial domain was all about secrecy, proprietary advantage and competing to win at your competitors expense. But with all the developments we have witnessed in communication and technology, the new business mantras are now all about open source, sharing and collaboration. In short, better outcomes can be achieved when we work together rather than apart.

In some areas however, this newfound collaboration has yet to be truly embraced and could be stifling better outcomes. When it comes to providing a reliable and sustainable income in retirement, advice and resulting solutions still seem very binary in nature, sometimes perpetuated by the retirement equivalent of urban myths. One such myth is the belief that if a retiree wants a high level of starting income so they can enjoy the early, more active stage of retirement and spend less in the latter years, then the only way that can be achieved with pension assets is via a drawdown arrangement. Let’s explore this myth in a little more detail.

One easy way of maximising spending in the early years is to ignore inflation and focus on creating a sustainable income stream in nominal terms. This creates a reducing income stream in real terms and therefore supports higher spending in the initial years of retirement. But what is a reasonable sustainable withdrawal rate in nominal terms for a typical client in their mid-60s?

Well Novia’s in house discretionary investment manager, Copia Capital Management have conveniently done the maths for us. If we refer to their ‘Retirement Income Overview’ document1 we can note that to a high degree of certainty (95% probability) their risk level 3 portfolio, which typically has between 52%-62% invested in equities, should be able to support a 3.04% withdrawal rate for a 30 year period. Put another way, for every £100k of portfolio a withdrawal of £3,040 pa should not lead to portfolio depletion in 95% of cases. So if a fit and healthy 65 year old had a £400,000 portfolio invested in Copia Portfolio 3, they would be able to withdraw £12,160 pa, although at an overall 2% level of inflation the purchasing power of this amount would have almost halved by the end of the 30 year period.

Back to where we started, with the benefits of sharing and collaboration. What if some of this clients funds were used to buy Secure Lifetime Income, the guaranteed income solution provided by Just via the Novia SIPP. How would that impact on the starting level of income?

Well as an example, our fit and healthy 65 year old would be able to secure £5,000 of guaranteed income for life for a purchase price of £104,672, leaving £295,328 in Copia Portfolio 32. If we then apply the same 95% probability of securing the 3.04% withdrawal rate to the invested portfolio, this would support a withdrawal of £8,978. So when added to the £5,000 guaranteed income payment, our client could now enjoy a total income of £13,978 instead of £12,160 – an increase of just under 15%. And importantly, the overall probability of achieving this higher level of income is improved beyond 95% as the £5,000 guaranteed income is payable for life, however long that turns out to be.

I suppose we should acknowledge that if a retiree wants to spend at such a level as to knowingly deplete their funds in short order, then drawdown (or UFPLS) would be the right solution. However, for those people who need to make their retirement savings last their lifetime, but who also want to maximise spending in the early years, combining guaranteed and flexible income within a drawdown arrangement, as you can do within the Novia SIPP, should be given consideration. If you’d like to find out more speak to your Novia or Just account manager.

1 For details of all the assumptions used please click here:  Copia Retirement Income range sales aid risa 0517

2 Rates taken on 25 February 2020

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