Your investment portfolio, despite the market ups and downs of the past few months, is looking bountiful – and that is before you consider the income from your State Pension. Could retirement be more attractive than you initially thought – and may even come sooner than you panned?
Those happy thoughts may well be in the minds of many 50- and 60-somethings these days, thanks to the bull market that has run since the global recession. A financially comfortable retirement seemed like a distant dream in the wake of the financial crisis, but is now starting to look eminently possible.
But before you throw caution to the wind, make sure you have taken stock of all necessary financial-planning considerations in retirement, such as new expenses and costs that you might not have had to contend with when you were working.
What follows are reminders of some of the financial realities of retirement that have the potential to blindside new retirees who don't plan for them.
You Could Encounter a Down Market Early on in Retirement
Retirement-portfolio balances are buoyant at the moment, but the past few months have provided a reminder that that can change in a hurry. And encountering a bear market, especially early in retirement, can quickly change the viability of your retirement plan.
If your £1 million portfolio was to drop by 25% next year, your £40,000 annual withdrawal would jump from 4% to more than 5% in the space of a year.
That might not be catastrophic, but financial planners usually advise pre-retirees to build in some variability in their in-retirement spending programs so that they spend less in down markets, especially if those down markets happen early in their retirement years.
“Bucketing” – holding enough cash and bonds to ensure that you're never going to have to sell stocks to meet living expenses – can also protect against the risks of a market downturn.
Inflation May Alter Your Withdrawal Rate
Petrol prices provide a regular, visible gauge of whether everyday costs are going up or down. But most price changes are far more subtle and easy to ignore: the pasta box that was 250g shrinks to 200g, or the television bill jumps by £10.
Over time, those minor cost increases, both direct and indirect, mean that you'll need to spend more to maintain a steady standard of living. That's why it's so important to make sure that you're factoring in the role of inflation when assessing the viability of your plan, an amount that you can live on today may not be enough to get by on in 10 years.
You Will Still Need to Pay Taxes
If you have a large investment portfolio which pays dividends, or continue to do some part-time work which takes you over the Personal Allowance of £10,600, you will need to pay income tax on these earnings.
You Might Not be Able to Work
Continuing to work at least part time is a fact of life for many of today's retirees; they may do so by choice or because it's the only way to make the numbers add up for their retirement.
But while there are certainly several important financial advantages associated with working longer working longer may not be possible for everyone. The disconnect may be owed to health considerations – the worker's, his or her spouse's, or parents', unemployment, or untenable physical demands of the job, among other factors.
A version of this article originally appeared on Morningstar.com. It has been edited to ensure it is suitable for a UK audience.
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