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How long will your savings last?
Please_explain...
Posts: 36 Forumite
Or, more accurately, at what rate can you spend them without seeing them run out? I'm sure I not the first to have asked themselves this but unless I'm the last person in the world to realise that the answer is actually remarkably simple, perhaps this might help someone else out there. I've seen on line calculators that ask for your estimates of inflation and income before they give an answer to this question, so they can't have spotted the trick...
So, now there's an alternative to buying an annuity I have been trying to work out how long my savings might last me in retirement, and I was beginning to think it was quite imponderable. For example, if I had £600,000 under the mattress (which I don't) and thought I might live another 30 years (which I won't) then I could blow £20,000 a year, right? Well obviously that's true, but, as you know, inflation could have a dramatic effect over 30 years and £20,000 might not cover the year's grocery bill by the time I shuffle off. On the plus side, if I didn't keep the money in the bedroom it could earn interest, or even see capital gains if I were brave/foolish enough to gamble on the markets in retirement. So without knowing what returns I might make or what inflation will be - and I've known it over 25% and under 0% - it's simply fingers crossed and hope, isn't it.
Not so...! For this wheeze to work you do have to make the assumption that the income from your savings will match the inflation rate: I don't think that's unreasonable, indeed it's probably pessimistic to think otherwise. I know savings rates are dreadful at the moment but inflation is all but zero too. When inflation rises so will interest rates. The canny MSE should always, alright, usually, be able to get a return that beats inflation even in nice secure building societies. (I still have accounts paying 4.5 and 4.7% and just this morning opened one paying 3%.)
So, after that too long preamble, my revelation was that, in the example above, you really could take £20,000 pa in real terms for exactly 30 years before the money ran out.
If your savings rise with inflation and you take out an amount that also rises each year at a matching rate then it doesn't matter what inflation and rates do - high, low or wildly variable - your savings will last the same length of time. The trick would appear to be that you mustn't think of the income/interest you earn as the amount you can spend in any given year but realise that what you can take is simply a set fraction of the (original) capital adjusted for inflation. You can't help feeling poor when rates are low or better off when they are very high but in fact it makes no difference. I know, it's hard to get your head round that.
I ran some examples; with very low inflation the capital just slowly reduces, with really high inflation the capital shoots up, steadies and then absolutely plummets in the final years but it still lasts exactly the same length of time, which really surprised me.
If you have a windfall or an unexpected expense or a change in life expectancy then you can reset the figure by simply dividing your then total capital by the recalculated number of years you think you have left and that's your new annual 'income' which will increase with inflation. Indeed, an even simpler, and more reliable, way would be to do the calculation every year - you obviously won't spent exactly the same amount each year. Your savings divided by life expectancy is that year's spending money.
Apologies to everyone who's thinking, "Well, derr!" but it has been a huge comfort to me to realise that my savings won't run out if inflation rises or falls and that I can have a reliable amount of 'spending power' rather than an uncertain and probably diminishing income. I feel I can plan much more confidently now and hope this might help you do so too. The only [baring the unforeseen major upset] way you might run out of money is if you underestimate your life expectancy, so be optimistic about this, but not wildly so - you're not going to hit 120! If you're 65 now and male they expect you to have another 21 years, so perhaps start off allowing for 25-30.
However, if inflation were to stay at these low levels, you'd still be better off buying an annuity, though if we had a period of 1970's inflation you'd be stuffed. Or, if you were clever/lucky, you could make far more in shocks and stares. You might argue that you want more money early in retirement when you can be more active, or the opposite so you can have better care in old age, or maybe you're desperate to leave a legacy and don't want all the money to have gone... just covering myself because I know people will raise objections. I'm just saying that it's possible to have a steady real terms income over many years from a lump sum without worrying about inflation or interest rates or the vagaries of the stock market and no-one had ever told me that. And yes, I could have said it much more succinctly!
If you insist on checking this for yourself, my method assumed that income was taken at the end of the year and, even in the first year, allowed for inflation. So if that were 5% in year one the first withdrawal would be £21,000 in the example above. If inflation/interest rates were 3% in the second year the take at the end of year two would be £21,630, etc. Whatever rates you allow the capital hits £0 after exactly 30 years.
So, now there's an alternative to buying an annuity I have been trying to work out how long my savings might last me in retirement, and I was beginning to think it was quite imponderable. For example, if I had £600,000 under the mattress (which I don't) and thought I might live another 30 years (which I won't) then I could blow £20,000 a year, right? Well obviously that's true, but, as you know, inflation could have a dramatic effect over 30 years and £20,000 might not cover the year's grocery bill by the time I shuffle off. On the plus side, if I didn't keep the money in the bedroom it could earn interest, or even see capital gains if I were brave/foolish enough to gamble on the markets in retirement. So without knowing what returns I might make or what inflation will be - and I've known it over 25% and under 0% - it's simply fingers crossed and hope, isn't it.
Not so...! For this wheeze to work you do have to make the assumption that the income from your savings will match the inflation rate: I don't think that's unreasonable, indeed it's probably pessimistic to think otherwise. I know savings rates are dreadful at the moment but inflation is all but zero too. When inflation rises so will interest rates. The canny MSE should always, alright, usually, be able to get a return that beats inflation even in nice secure building societies. (I still have accounts paying 4.5 and 4.7% and just this morning opened one paying 3%.)
So, after that too long preamble, my revelation was that, in the example above, you really could take £20,000 pa in real terms for exactly 30 years before the money ran out.
If your savings rise with inflation and you take out an amount that also rises each year at a matching rate then it doesn't matter what inflation and rates do - high, low or wildly variable - your savings will last the same length of time. The trick would appear to be that you mustn't think of the income/interest you earn as the amount you can spend in any given year but realise that what you can take is simply a set fraction of the (original) capital adjusted for inflation. You can't help feeling poor when rates are low or better off when they are very high but in fact it makes no difference. I know, it's hard to get your head round that.
I ran some examples; with very low inflation the capital just slowly reduces, with really high inflation the capital shoots up, steadies and then absolutely plummets in the final years but it still lasts exactly the same length of time, which really surprised me.
If you have a windfall or an unexpected expense or a change in life expectancy then you can reset the figure by simply dividing your then total capital by the recalculated number of years you think you have left and that's your new annual 'income' which will increase with inflation. Indeed, an even simpler, and more reliable, way would be to do the calculation every year - you obviously won't spent exactly the same amount each year. Your savings divided by life expectancy is that year's spending money.
Apologies to everyone who's thinking, "Well, derr!" but it has been a huge comfort to me to realise that my savings won't run out if inflation rises or falls and that I can have a reliable amount of 'spending power' rather than an uncertain and probably diminishing income. I feel I can plan much more confidently now and hope this might help you do so too. The only [baring the unforeseen major upset] way you might run out of money is if you underestimate your life expectancy, so be optimistic about this, but not wildly so - you're not going to hit 120! If you're 65 now and male they expect you to have another 21 years, so perhaps start off allowing for 25-30.
However, if inflation were to stay at these low levels, you'd still be better off buying an annuity, though if we had a period of 1970's inflation you'd be stuffed. Or, if you were clever/lucky, you could make far more in shocks and stares. You might argue that you want more money early in retirement when you can be more active, or the opposite so you can have better care in old age, or maybe you're desperate to leave a legacy and don't want all the money to have gone... just covering myself because I know people will raise objections. I'm just saying that it's possible to have a steady real terms income over many years from a lump sum without worrying about inflation or interest rates or the vagaries of the stock market and no-one had ever told me that. And yes, I could have said it much more succinctly!
If you insist on checking this for yourself, my method assumed that income was taken at the end of the year and, even in the first year, allowed for inflation. So if that were 5% in year one the first withdrawal would be £21,000 in the example above. If inflation/interest rates were 3% in the second year the take at the end of year two would be £21,630, etc. Whatever rates you allow the capital hits £0 after exactly 30 years.
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Comments
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The money you have earns interest.
For example I get an average of 5% interest on my money. I personally don't think my money will ever run out as such.:footie:
Regular savers earn 6% interest (HSBC, First Direct, M&S) Loans cost 2.9% per year (Nationwide) = FREE money. 0 -
I think it's clear in what I wrote that I'm allowing for interest - that's the whole point; it balances inflation. I don't think many can get 5% on new accounts at present, not on anything other than current accounts that only pay on a small sum. If you got 5% but inflation were 25% you'd soon run out of money!0
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But you are still starting with the assumption that are you are going to live for 30 years. So you might just possibly run out, or perhaps might not achieve your aim of using up your savings on the day you die.
That's assuming you have no depndants, and no wish to leave an inheritance.This is a system account and does not represent a real person. To contact the Forum Team email forumteam@moneysavingexpert.com0 -
Oh for pity's sake, read what I wrote, everything you say was covered!!!!!!!!0
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Please_explain... wrote: »I think it's clear in what I wrote that I'm allowing for interest - that's the whole point; it balances inflation. I don't think many can get 5% on new accounts at present, not on anything other than current accounts that only pay on a small sum. If you got 5% but inflation were 25% you'd soon run out of money!
Which cash accounts are you getting that much interest on currently?
For the sums you suggest then most advice would be to invest rather than save, keeping the majority if the money in equity funds. Long term indications are that you could assume an after inflation return of 3-4%, which would apply to the six figure sums you suggest apart form a few tens of thousands that would be short term/ emergency/ ensure that equities didn't need to be cashed in after a crash.
Your assumption about savings meeting inflation rates is probably unreliable, savings rates are currently low but in real terms are as good or better than they have been in many times past. If you look at periods pre crash then you might have inflation at 3-5% with base rates somewhat higher and savings rates lower to maintain differentials and profits for the banks.0 -
Which cash accounts are you getting that much interest on currently?
For the sums you suggest then most advice would be to invest rather than save, keeping the majority if the money in equity funds. Long term indications are that you could assume an after inflation return of 3-4%, which would apply to the six figure sums you suggest apart form a few tens of thousands that would be short term/ emergency/ ensure that equities didn't need to be cashed in after a crash.
Your assumption about savings meeting inflation rates is probably unreliable, savings rates are currently low but in real terms are as good or better than they have been in many times past. If you look at periods pre crash then you might have inflation at 3-5% with base rates somewhat higher and savings rates lower to maintain differentials and profits for the banks.
I stand by my contention that you should normally be able to match inflation. I remember just pre crash earning 7%. The stock market scares me, the more so as I get older and more risk averse. I took out four funds in 2000, two are worth less now than then, one is just ahead and the other is 350% up. I know I'm a !!!! for not changing them but it shows how unreliable they are.
Anyway, my sole point was not where to invest but that inflation doesn't matter.0 -
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It's a fascinating discussion but of course no one can ever know, I've posted previously about sustainable withdrawal rates and been criticised for being too frugal - I just hope that we can enjoy most of what we have accumulated, it's not a fortune and money certainly does not guarantee happiness but it helps you do some of the things you want to do:)0
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Please_explain... wrote: »I stand by my contention that you should normally be able to match inflation. I remember just pre crash earning 7%. The stock market scares me, the more so as I get older and more risk averse. I took out four funds in 2000, two are worth less now than then, one is just ahead and the other is 350% up. I know I'm a !!!! for not changing them but it shows how unreliable they are.
Anyway, my sole point was not where to invest but that inflation doesn't matter.
Well the consensus of opinion is that cash savings don't match inflation, and there's a huge amount of discussion on this.
The definitive reference point is normally the Barclays equity gilt study, which I think is available online for free now and updated annually.
This tracks the performance of equities, bonds and cash and started in 1890. The returns are dramatically greater for equities than for bonds with cash a little further behind. The source of their cash interest rates isn't clear, and they are unlikely to have actively been seeking the best rates and switching accounts regularly.
Still it would be unusual for cash savings to beat inflation over significant timespans, and also unlikely for them to match or beat returns from equities.0 -
Please_explain... wrote: »I'm not getting 5%. That was HappyMJ's boast. Wish I were!
No, I mean the 3% new account and the 4.5% legacy accounts, these would suggest long term fixed rate products, with the risk that inflation will rise when the deposits will be unable to do so.0
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