We save for one of two reasons only:
- To build a larger sum to spend on a future date (for groceries, toys or memories)
- To invest in order to provide a future Income Stream.
Very often we actually negatively ‘save’, by borrowing from future income in order to buy stuff today. We then pay off debt monthly, which often include high interest and other borrowing costs. Big mistake!
But today I want to concentrate on the second reason for saving, namely to create an Income Stream for when we cannot work anymore.
Three important points to keep in mind when Saving for Retirement is the following:
- How much needs to be saved in order to provide a sufficient Income for Life?
- How do we invest in order to protect the savings against a) negative returns, and b) inflation?
- Is there an alternative for Retirement Income other than from Savings Invested?
1. How much is needed?
Firstly, plan to live on the Income produced only, and never touch your Capital.
Because we live much longer. You should plan to live for at least 30 years after retirement, and if you do that, you cannot afford to touch your Capital. By doing this you also leave a ‘buffer’ for when medical costs rocket out of control towards the end of your and/or your spouse’s lives.
Return obtained: 10% for the year (therefore R100 000)
Inflation: 7%, so you have to leave R70 000 in your investment to protect your buying power.
Income to spend: R30 000. For the year.
So in the second year you’ll have R1.07m to invest in order to have the same inflation protected income in the next year.
So, How Much Savings is needed?
Historically inflation protected returns of around 3% seems to be the maximum ‘norm’ internationally over the long term. So if, for instance, you want an Income of R50 000 per month in todays money:
Income required: R50k x 12 = R600k p.a.
Capital required: R600 / 0.03 = R20m.
Yes, you’ll need R20 million to invest with a return of inflation plus 3% in order to provide you with an inflation protected income of R50 000 per month (before tax).
2. How to Invest?
Despite the thousands of products with fancy names created by everyone wanting to invest your hard earned money, there are only two places your money will end up in order to beat inflation, and that is Stocks (Shares) and Property.
3. What is the alternative?
If you have 10 years or more to retirement, then building up an RRIP (Residential Rental Income Property) portfolio by gearing (borrowing say 80%) is a great way to go. You can create a bigger Inflation Protected Income Stream in less that 10 years that surpass the income created by more that 40 years of saving 20% of your Salary.
With the internet these days there are also very interesting alternatives to monetise the skills that you already possess and create Passive Income Streams for life.
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