Saturday, 17 August 2024

Why delay retirement?

The other part of Moomin's question about my budget review post was why I don't retire now, since I can afford to?

There are basically two main reasons:

1. I don't mind working - the job is moderately interesting, moderately easy, and moderately well paid. Of course there are aspects of the job I find tedious, difficult or annoying (on occasion), but nothing to the extent that makes mee feel like sending in an "I quit!" email to my boss. And I suspect I would find retirement a bit boring. Once you have enough saved up to retire whenever the urge takes you, continuing to work can seem less onerous (paradoxically, having FU money reduces the urge to say FU -- a lot of office politics and incompetent co-workers become rather amusing when you can take it or leave it).

2. There are financial benefits to working (no surprise there!). This can be considered in two parts - the impact on my financial situation when I do retire (and during retirement thereafter), and the impact on my non-retirement investments (my 'estate' or 'net worth'). This impact can be larger than some might intuit, so I did a quick spreadsheet model to illustrate an example (of the retirement income part).

Scenario: Currently aged 65 with a superannuation balance of $1.2MM. Can either retire in 12 months (just before turn 66), or keep working for a few more years.

Assumptions:

All figures in current $ (ie. real (inflation adjusted) returns, salary increased with cpi, etc.

Current salary is $120Kpa and will remain constant (cpi increases only) until retire

SGL rate is 12% of salary, and is taxed at 15% going in to super

At age 65 can rollover the super accumulation balance into 'pension phase' which will have a 0% tax rate on earnings or capital gains within super, and the pension payments are not taxable income. (This might be easier to do with an SMSF than if you are in a retail superannuation fund).

The pension payments received while still working are the min required withdrawal rate, and are fully recontributed into super as an undeducted contribution (ie. the TSB remains below the TBC).

The super investments have an average real rate of return of 8% (you can comment about how totally unrealistic this assumption is!)

From retirement onwards the annual tax-free pension withdrawn from super is set for each retirement scenarui ti be a constant amount that will completely exhaust the super balance at life expectancy (age 87).

Modelling results:

As shown below, if retire at the end of year age 65 the super could provide theoretically provide an annual income each year of $128Kpa during 22 years in retirement (ignoring variability of returns, sequencing risk, lifespan uncertainty/longevity risk, legislative risk/changes to tax-free pension rules etc.)

Delaying retirement for one additional year would mean an extra year of SGL contributions, and the pension paid out during that year would have been recontributed as an NCC. So the super balance would have benefitted from an extra year of contributions and one less year of withdrawals, and the money that would have been withdrawn and spent can instead remain invested in super and enjoy 22 years of tax free compound growth. This increases the annual retirement income by 10.9% while reducing the years spent in retirement by only 4.5%.

Every extra year of working and delaying retirement reduces the number of years that will be spent in retirement, but boost the retirement income available each year during retirement. On the graph this appears to be a very simple trade-off between years of retirement and retirement income during retirement, but the decrease in years in retirement is linear, while the increase in retirement income is an exponential curve.

So, delaying retirement to age 71 would result in a 27% decrease in years of retirement, but a 90% increase in annual income while retired.

The big questions (with unknown answers) are:

* how many of those retirement years will be 'go-go' (healthy and active), 'slow-go' (healthy but less active), and 'no-go' (inactive and/or with health issues)? The 'lost' retirement years due to delaying retirement are all some of the 'go-go' years, so if you want to spend the first few years of retirement doing international travel and heliskiing NZ and Japan or trekking up to Machu Pichu, delaying retirement might not be such a good idea. Then again, you might not have the retirement income to fund the 'go-go' years if you retire too soon.

* how much do you need/want in retirement? There isn't much point working to have a bigger retirement income if you don't need/want the extra retirement income (but you may also be happy to use any 'surplus' retirement income to add to your estate/NW during retirement -- depends on your goals in retirement.

* longevity - planning for a life expectancy of 87 is just a wild guess. If you die at age 73 then working until age 71 might seem like a poor choice to those who survive you (but you won't be around to care). Then again, you might live to age 104 like my great-grand-Aunt, and enjoy 'go-go' retirement until age 100 or so. In which case retiring at 65 and expecting to only need retirement income to last until age 87, and to only have ten years or so of 'go-go' years, might result in relying on the Age Pension or selling other non-retirement assets during those 'extra' years. You probably won't complain about still being around in your 90s, but a decision to retire at age 65 might look sub-optimal in retrospect.


There are also some ancillary benefits of retiring a few years later and with a higher super balance - purchasing a lifetime annuity provides more feasible to secure a larger fraction of the desired retirement income, reducing longevity risk quite significantly for every extra year of work.

Finally, the modelling doesn't include the impact of working a few more years on accumulation and growth of non-retirement assets. For example, while working a significant fraction of my salary can continue to flow into non-retirement savings such as adding to my Investment Bond and to my investment property offset account (so there may be no net mortgage balance by the time I retire). Whether or not this is any incentive to work a few more years depends on what your financial goals are.

Some scenarios:




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2 comments:

mOOm said...

OK, but you wrote that you are close to the $1.9 million super level in a previous post.

enoughwealth@yahoo.com said...

Yes. And in this post I wrote "an example" not "my situation" ;) That is why once my EOFY TSB hits $1.9M (prob next year) I won't be able to make undeducted (NC) contributions, but only be able to 'top up' to the $30K CC cap. So, I'll be putting the max ($1.9MM or 2.0MM depending on what the TBC is by then) the max possible into pension phase as soon as I hit 65 yo, and will only continue to accrue the max CC ($30K or whatever) into accum phase account. I'll have to pay out the min 5% pension from the pension phase account each year, but as I will still be working on not need to income yet, I'll just add that $100K or so of tax-free pension income to my investment loan offset account.

I just gave the example of $1.2MM super at age 65 as a more generally relevant example, as most people won't be hitting TCB cap at age 65 when considering whether or not to retire.