If there’s one thing you can be fairly sure of is that you’ll get less for your money in the future than you do now. You just need to look at how the price of the weekly shop has changed to see that.
Inflation is a significant risk to your money in the long-term and it’s one of the reasons why managing your pension pot in retirement can be such a challenge. You’ve got to set a level of income that you can live from and comfortably if possible, but which leaves enough invested that you can cope with rising prices, not just now but for decades to come.
Fidelity’s research shows that it’s a difficult balancing act. The more you take from a pension, the less chance there is that it will last. You could take a higher amount but this means you’ll only have a 50/50 chance of your pension money lasting, particularly as this needs to be upped each year to keep pace with inflation. If you reduce the amount you take your chances improve and if you’re willing to take even less you’ll get to the point where your money has a very good chance of lasting, even accounting for rising prices.
But setting a sustainable level of income at the start of retirement is only part of the challenge because your pot will rise and fall with markets. Income that looks sustainable now could become unaffordable very quickly.
James Carter from Fidelity explained more.
Ed: James, we’ve been looking at the trade-off between taking a higher level of income and the chance that your money will run out in retirement. But setting a sustainable income at the start of retirement, that’s just the beginning isn’t it?
James: Absolutely, that’s right. It’s really important to keep track on what’s going on with your income. Having a target level at offset, that is a great way to start, but you need to keep track of the assumptions you’re making at that point. So you’ll need to make assumptions about your living costs, about your investment returns and how long you might live ultimately. So you’ve got to keep track of those factors and keep an eye on them and be open to adjusting the level of income to ensure that it lasts as long as you need it to.
Ed: And I suppose that means that your level of income might rise or fall in retirement?
James: Ultimately it can mean that. I think you need to be open and flexible to that option. Keeping track is really important as I said and if you are open to making a small adjustment to your income in the short term that might mean that it’s less likely you’ll have to make a more drastic reduction in your income later on, or indeed even run out of funds altogether.
Ed: What we’re talking about here is invested pension money, but what about other sources of income in retirement? How do they affect your decisions around your invested pension pot?
James: I think it’s really important to consider any guaranteed income that you’ve got, so that might be from a defined benefit pension or from the State Pension, those guaranteed levels of income can give you a lot confidence and reassurance. That might mean you’re able to take either a higher level of income, or perhaps more investment risk with your invested pension pot. If your guaranteed income doesn’t cover your fixed outgoings then you might want to consider buying an annuity to give you that extra piece of mind.
Ed: And these decisions might be OK if you’re confident with financial matters but what about those people that are less confident?
James: There’s lots of free guidance out there, importantly the government offers an impartial guidance service called PensionWise and I would really encourage people to engage in that, but it might be that people need to consider getting advice from a financial adviser, someone that’s a specialist, someone that can track their pension pot annually and ensure that their income is performing as they need it to, we would really encourage people to get in touch with a financial adviser if they need to.
It would be great if we could be certain about the future but the reality is that we can only ever make broad assumptions about the future, however if you’re willing to stay flexible and to react to new information about market returns and about your own circumstances, you’ll have a much better chance of making the most of your pensions savings.