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Case
study: Financial Planning for a comfortable retirement
12th
February 2009
Martin
Bamford, a Chartered Financial Planner at Informed
Choice, responds to a fictional case study
for an affluent couple approaching retirement.
Case: Bruce and Naomi, in their early 50's, are
due to retire in April. They have sold their £500,000
house. The new house they planned to buy has fallen
through. They have a flat they were also planning to
sell which they can move into.
From the sale of their house they have £500,000 in
their current account. Bruce has £800,000 in a group
personal pension (GPP) and Naomi has about £500,000
saved. Both are invested in equities funds within the
GPPs. They have £80,000 in ISA savings.
They want to spend about £400,000 on a new property.
But they are in no rush now and happy to see what
happens with prices. They may travel in springtime and
look to buy in the summer.
The flat they own is worth about £370,000. It is also
mortgage free and rental could be around £1,200 a
month. What should they do with the £500,000 in the
bank, while they look for another property? Should they
seek a mortgage to buy the new property rather than
using their capital? Also, should they try to unlock
their pensions for income now or keep them invested?
Solution: Bruce and Naomi may have had a stroke
of good fortune with the timing of their property sale.
With the residential property market widely predicted to
continue to decline in 2009, having cash in the bank for
the pre-crash value of their home is fortuitous.
However, having their property wealth in cash rather
than bricks and mortar in the current financial climate
causes other issues. Keeping such a large sum of money
with a single bank or building society would be unwise
for several reasons.
In the event of the failure of the bank, their
protection would be limited to the £100,000 savings
limit for joint account holders under the terms of the
Financial Services Compensation Scheme (FSCS). Interest
rates are at historic lows, so after the deduction of
income tax on their savings interest and the impact of
price inflation, their cash will be losing value in real
terms. This should be of less concern than the financial
security of their capital in the short term.
A priority must be to spread the cash between savings
accounts with five different and separately licensed
financial institutions. Whilst the government has made
repeated promises that no saver will lose out
financially in the event of a British banking failure,
it is far safer to abide by the rules of the
compensation scheme. At the same time, Bruce and Naomi
should be shopping around to achieve the maximum
possible interest rates on their savings, ensuring of
course they are only selecting financial secure and UK
authorised banks.
As 80% of the money is earmarked for another property
purchase, perhaps when the markets have fallen a bit
further, cash is really the only viable option for them.
With the remaining £100,000 not notionally allocated
for a new property, they might consider a longer term
investment strategy with better prospects for growth or
income.
Before making any major financial decisions, a detailed
budget should be drawn up to enable them to analyse
their likely expenditure in retirement. Whilst they have
what appears on the surface substantial financial
resources, they are both in their early 50's and typical
life expectancy means they should plan for a lengthy
retirement.
Once a budget is established, running several cashflow
forecasts will give them a better idea of how long their
assets can last. Having a combination of different
assets generating income in retirement is a sensible
strategy for risk reduction purposes. Rental income from
the flat, interest from their cash and then pension
income will all add up to generate a healthy level of
income in retirement.
Both have substantial sums in their pension plans which
need careful consideration given their exposure to
equity markets. Crystallising market falls now by
purchasing an annuity or even switching the entire fund
to cash would seem foolish. However, further equity
market falls cannot be ruled out, so it would be
sensible to consider a move to a more diverse portfolio
that will reduce some of this downside risk without
removing absolute exposure to the equity asset class for
the potential of future recovery.
Using unsecured pension, Bruce and Naomi could both take
the maximum tax-free cash (pension commencement lump
sum) now, although they have no immediate requirements
for additional cash. Taking cash now would also
crystallise recent losses in that part of the portfolio.
They need to be aware of pension rule changes that could
affect both of them for a short period of time,
preventing them from accessing pension benefits between
6th April 2010 and their 55th birthdays.
It should be possible to obtain another mortgage for at
least part of the purchase price of their next property,
but there are no obvious advantages to going down this
path. The cost of finance is likely to exceed the net
return available from their savings, unless they were to
invest the cash and aim for a higher return from a
diverse mix of investments.
One route to consider is the use of an offset mortgage
with the equivalent sum of cash used to offset the
mortgage debt. This means no interest is payable on
either the mortgage debt or receivable on the savings,
but it does keep some more cash available when they
purchase the new property, albeit in the form of a debt
if they were to make a withdrawal from the offset
account. The mortgage could then be repaid when they
eventually need to take benefits from their pension
plans.
In terms of priorities; Bruce and Naomi should start
with the movement of their cash between a number of
separately licensed financial institutions to ensure
capital security. This should be followed with a
thorough analysis of their future income and capital
requirements, along with analysis of their attitude
towards investment, risk and reward, before making any
decisions about their cash, pension benefits or property
assets.
Martin Bamford is a
Chartered Financial Planner and Certified Financial
Planner certificant for Informed
Choice; an award-winning firm of Chartered
Financial Planners working with individual and small
business clients in Surrey and the surrounding counties
to help them to build, manage and protect their wealth.
To request a new
client welcome pack and arrange an initial meeting with
no cost or obligation, please call Informed Choice on
01483 274566 or email hello@icl-ifa.co.uk.
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