'I'm an ISA Millionaire. Can I Get Out of Here?'

There's no point aiming for a £1 million ISA pot if your spending is going to be unsustainable in retirement, says Morningstar's Christine Benz

James Gard 27 March, 2023 | 9:10AM
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One million pound piggy bank

The end of the tax year is fast approaching, and many savers are wondering what to do with their remaining ISA allowance. The organised ones may even be thinking ahead to the start of the new one.

This time of year also brings the usual seasonal articles about how to become an "ISA millionaire" (spoiler alert: start early, invest a lot and choose the right funds). Seven figure sums and how to earn them are also part of the current national conversation about retirement following March 15’s Budget.

As with a £1 million pension pot, a £1 million ISA portfolio is still a fantasy for many. But what if you have this golden egg? For our ISA special report I’m going to revisit the analysis I wrote two years ago in the article Can You Retire With a Million Pounds?.

At that time, my answer was "possibly", with the caveat of how quickly you spend it, what your obligations and spending assumptions are: a 65-year old with a final salary pension and no mortgage is in a vastly different position to a 45-year old with two young children and a large mortgage. You may start with a frugal mindset but find yourself missing certain luxuries like cruises, new cars, and giving gifts to children and grandchildren. And then there's the big one: how long are you planning to live?

Inflation is also now the biggest elephant in the room. When I last ran the numbers consumer price inflation (CPI) was around in 2.8%. Last year it hit 11.1%, a 41-year high. I’ve now had to make a big adjustment.

In 2021, I surmised a £1 million pot would last 40 years if you withdrew £25,000 a year. But even with inflation at 2.8%, if you increased your withdrawals each year to keep up with the cost of living, this would last 28 years. That’s now reduced to 16 years with an inflation rate of 10%. But inflation isn't exactly certain. 

For one, the Office for Budget Responsibility forecasts CPI will fall back to 2.9% by the end of this year. Those who put their faith in economic forecasts may now be thinking the coast is clear. A return to 2.9% would pretty much take us back to 2021 and my 20-year horizon. 

Inflation near 3% in the next 10 to 20 years seems more likely than a rate of 10% so let’s hope I can rerun these numbers next year to add some years back to our theoretical ISA millionaire. Moreover, let’s hope the OBR is right!

One sobering thought: the Pensions and Lifetime Savings Association has just upgraded its forecasts for a "comfortable" retirement to £37,300 per annum for a single person. £25,000 a year will leave you £12,300 a year short. Where's the difference coming from?

Advisers Have Customised Solutions

I’m not a financial adviser and my calculations are pretty "back of the envelope", so I don't think you should take my forecasts as writ. You certainly shouldn't base your plans on them.

That's where the IFA comes in. An adviser can work out what works for you (and the income and inheritance tax implications). And here’s the crux: my theoretical £25,000 a year withdrawal may be plenty for some. For others: not so much.

Nowadays, people's personal finances can be far more complex than those of their parents and grandparents. If you're lucky, you may have a mixture of income sources, perhaps involving defined benefit and defined contribution pensions, the state pension (soon to be uprated by 10%), buy-to-let income, inheritance windfalls, equity release, and that ISA portfolio. If that latter one has £1 million in it then you have the cherry on the cake. 

If you’re in this fortunate position, younger generations may depend on you to help them with school and university fees. You may even be supporting elderly parents yourself. Stepchildren can also be in the mix. It's easy to have a lot in the "plus" column, and many more outgoings than your own parents did at your age.

Prospective UK retirees can take comfort in knowing they’re not alone in focusing on a "big number" to get the green light to leave work. In Canada they’re asking the same question. In France they're rioting about it.

A poll by wealth manager BMO found that Canadians had upgraded their required retirement pot to C$1.7 million, from C$1.4 million three years ago – because of the rising cost of living. Rather neatly, 1.7 million Canadian dollars is more or less £1 million.

My colleague Ruth Saldanha has looked the issue from a Canadian perspective, but there are general lessons in the approach that could be helpful to a (prospective) ISA millionaire. She leans on the wisdom of Morningstar director of personal finance Christine Benz, who has made the issue of having "enough" money and "outliving your savings" her pet subjects.

Rather than starting with "is a million enough?", then, Benz says you should focus on how much you plan to spend and make it sustainable. "At a bare minimum, anyone embarking on retirement should understand the basics of spending rates: how to calculate them, how to make sure their spending passes the sniff test of sustainability given their time horizon and asset allocation, and why it can be valuable to adjust spending over time,” she says.

No Magic Formula

One traditional way of calculating how much you can withdraw from the magic pot is to use the "4% rule". To keep your pot intact, assume your remaining money is rising above inflation, then you can safely withdraw 4% each year. But Benz says this now can be treated as flexible rather than hard and fast rule.

"Whereas last year’s research suggested that a 3.3% withdrawal rate was a safe starting point for new retirees with balanced portfolios over a 30-year horizon, this year’s research points to 3.8% as a safe starting withdrawal percentage, with annual inflation adjustments to those withdrawals thereafter," she says.

Ultimately it’s very hard to assess how much you will need to live on to live well, even if your starting point is a government-mandated retirement age for a state pension. Your spending patterns will change as you get older. And it may be better to leave something to your descendants than running out and spending your final years in poverty.

While inflation is the current enemy of long retirements, there are some silver linings. Equity valuations are now lower after last year, while bond and cash yields are much higher – this boosts the likely level of income a retiree can receive every year. And that means your money is working harder. 

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The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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James Gard

James Gard  is senior editor for Morningstar.co.uk


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