Retirement Savings

A_Nice_Englishman

I am in the fortunate position of owning my home outright having worked hard to pay off the mortgage and also have about £30K in cash and £15K in equities - mainly a FTSE tracker but also some random holdings in individual companies and funds built up over the years.

All the equities and about half the cash are in ISAs.

My main retirement savings are in the final salary Local Government Pension Scheme where I have about 28 years' service. The normal retirement date is 65.

In 13 years I will be 60 and intend to move to a more expensive area and work part time for another couple of years before retiring fully. I will therefore need a lump sum to buy a new property and some income to tide me over until I am 65 and the state and LGPS pensions kick in.

My LGPS and state pensions should be enough for my day-to-day expenses once I reach 65 but I will want to have some extra for luxuries. I have no dependants or children so am happy to fund any care/nursing home fees I may need to pay from the sale of my property.

I have about £700 a month to save/invest to achieve these aims.

I think I have more than I should in cash and need to invest in equities for growth initially, take out what I need at 60, then switch to income-producing investments and enjoy myself until I am too old to do so.

All constructive comments welcome!

jem16

I think you would want to utilise your Maxi ISA contribution over the next 13 years. If you know what you are doing you can organise this yourself. ots of good info on this thread for DIY.
http://forums.moneysavingexpert.com/showthread.html?t=416337

If you don't feel confident in this seek the advice of an IFA to advise on and then monitor this.

jamesd

A Nice Englishman, if you're a higher rate tax payer one possibly interesting approach for you would be using a pension that you'd intend to dedicate to the property purchase. Tax relief at 40% on the way in, 25% lump sum to pay the deposit and then the pension payments to pay the mortgage with no more than basic rate tax less personal allowance to pay on the income. Depends how keen you are on avoiding having a mortgage at all.

A pension will also be the most efficient way to provide at least the first 6k or so (tax personal allowance) of your income, whether you're a basic or higher rate tax payer. So pencil in at least pension investing to produce say 6k in income. You'd need to factor in your LGPS income when that kicks in to see if this extra pension income would take you into the over 21k taxable income range where age allowance reduction starts. If it would, then the ISA may be more efficient long term.

It sounds as though it would be useful to substantially decrease the cash in the ISA holdings, in favor of equities. It's expected that from April 2008 you'll be able to move money from cash ISAs to stocks and shares ISAs so that would let you do the switch while staying inside the tax wrapper.

The ISAs are more flexible than the pension but if you're a higher rate tax payer you're probably better off with pension until that takes you down to the basic rate level. Then maximising the ISAs below that, putting the rebate from higher rate tax into the ISA as a lump sum.

Also looks as though some reorganising of the investments will be useful, perhaps into a planned sector spread taking into account all of the various world market areas.

When you do partially retire one option with a lump sum is to purchase a five year annuity that would pay mortgage costs and/or income. Because this isn't a pension annuity much of the income from it is tax free because it is just a return of your capital. It can be a very tax efficient way to provide income above the personal allowance level, with the pension providing the part below it.

One reason I'm implying that you should consider a mortgage is that it lets you leave a larger portion of your capital invested. That'll probably grow at above the mortgage interest rate, leaving you better off long term than a full cash purchase. Buying an annuity to pay the mortgage repayments for five years would mean that you can forget about the repayments until you fully retire and the LGPS starts. This leaves most of your money invested for another five years of growth.

jamesd

When the time approaches it'll also be worthwhile for you to look at the effect of taking the LGPS pension early. I've read that in some cases (teaching is the one I read about) this may block you doing part time work, so check this also.

The reason for taking the pension early is so that you can leave a larger lump sum invested in the ISA to provide ongoing tax free income. This reduces your taxable pension income and tax, so it can leave you significantly better off. Whether it pays depends on how much the pension is reduced and how the investments do but it's quite likely to be a good idea if you're comfortable with income drawdown, which is effectively what this is.

It also has the advantage of leaving you with this larger ISA lump sum for buying long term care or long term care annuities if that is required.

You might also consider taking out a small mortgage now and investing the money if you can't maximally use your ISA allowances and hit your target pension capital for property purchase. You'll pay interest but the benefit of getting the money into tax wrappers to grow for 13 years is enough to make it worthwhile if you expect your investments to do well. You'll probably hate this thought but it's worth mentioning anyway because it probably would make you better off if you did it.

jamesd

I suppose I should explain how the mortgage works. Say you took a 30,000 interest only offset mortgage at 6% that allows 100% offset and used that to fund 500 net a month into a pension for five years. Add basic rate tax relief of 125 a month. Assume you get 9% investment return after fees.

The return on the 500 is reduced to 3% because you need to take 6% from it to pay the mortgage repayments. After five years the expected value of this portion is 32,400. In the remaining eight years with no monthly contributions this grows to 41,040

The tax relief portion is free money so that grows at the full 9%. Expected value is 9,500. In the remaining eight years with no monthly contributions this grows to 18,930.

After thirteen years you now have a pension pot worth 41,040 + 18,930 = 60,000.

Take a 25% lump sum and that repays 15,000 of the mortgage. The remaining 45,000 in the pension could be expected to provide 9% of that in ongoing income indefinitely (ignoring inflation cover), 4,050 a year. After tax, 3,240. The mortgage is still 15,000 so at 6% mortgage rate paying this takes 900 a year. That leaves a surplus of 2,340 a year in income. At some point you'll need to use 6.4 years of that to pay off the remaining mortgage capital but assuming a 25 year term with 13 years used already you have 12 more years to do it. So for the initial 6.6 years you can take the full 2,340 as extra income, then 6.4 years of none as you clear the mortgage. Finally, that income is yours again for as long as you live.

If you got a 12% investment return the pension is 55,880 + 25,530 = 81,410. 25% = 20,350 paid off the mortgage, 9,650 remaining, 575 a year in interest left. 75% of pension at is 61,050 and at 12% produces 7,346 before tax, 5,860 after tax, 5,285 after mortgage interest. 1.9 years of this are needed to pay off the remaining mortgage balance so you can comfortably take it all as income for five years, then reduce that to pay off the remaining mortgage over a few years. Lots of extra income here with little mortgage remaining to pay. So this is the upside if the investments do quite well. The downside, you're not really likely to do less well than the 6% mortgage rate and break even.

If you want inflation correction, multiply all values by 0.68 to get the mortgage balance and income after 13 years of inflation at 3%.

One more note on how this really works. While I did this calculation by reducing the return on investment within the pension from 9% to 3% or 12% to 6%, in reality you have to pay the mortgage interest somehow. You do it in this case by adding 150 a month of pension contributions and reducing that as the mortgage rises to 30,000, so it's zero from five years until you take the pension because all of the 150 is mortgage interest. The calculations have already allowed for the effect of this via the reduced return on investment.

EdInvestor

A_Nice_Englishman wrote: »

I am in the fortunate position of owning my home outright having worked hard to pay off the mortgage and also have about £30K in cash and £15K in equities - mainly a FTSE tracker but also some random holdings in individual companies and funds built up over the years.

I have about £700 a month to save/invest to achieve these aims.

I think I have more than I should in cash and need to invest in equities for growth initially, take out what I need at 60, then switch to income-producing investments and enjoy myself until I am too old to do so.

Since you are familiar with holding shares you might like to look at the High Yield Portfolio.This is a strategy designed to produce income in retirement and long term inflation beating capital and income growth. It features blue chip Uk shares in a minimum 15 share diversified portfolio designed to reduce risk as much as possible.

http://www.fool.co.uk/Investing/guides/The-High-Yield-Portfolio.aspx

During the growth period you reinvest the dividends, then when income is needed you spend them. Although there is no tax to pay usually for basic rate taxpayers, it's good to put the shares into your self select ISA every year as that means the capital gains are also tax free ( big takeovers can bust your 9.2k a year allowance with a big portfolio) and your age allowance won't be affected.

https://www.selftrade.co.uk is a good place to hold the self select maxi ISA, low fee and reasonable transaction charges. As mentioned, you can convert your cash ISAs to equities as of next year.

NS&I index linked tax free certs are a good replacement for cash ISAs if required.

A_Nice_Englishman

Thanks for the above posts and the link to the other thread, all of which I will read and digest.


My thoughts so far:

• I should have said in my initial post that I am a basic rate taxpayer and expect to remain so.
• I'm not keen on the idea of using a pension and not having access to my money in the event of a drastic change of circumstances.
• You are right, jamesd, I hate the idea of mortgaging my home ( though I do understand your argument for doing so).

So, it looks like stocks and shares ISAs are the right vehicle for me. I now need to decide what to buy. I suppose my house and pension are low risk assets so I should be looking at medium to high risk for my ISA investments, subject to being reasonably sure of achieving the cash I need in 13 years time.

dunstonh

I'm not keen on the idea of using a pension and not having access to my money in the event of a drastic change of circumstances.

Dont rule it out altogether. If you ignore growth and just look at the return for the net capital you lose, the pension would prove a guaranteed income in excess of 10% a year. There isnt much that can do that.

It may be the right solution for some of your funds. Not the bit you want to keep for capital but a bit you wish to use for income.

EdInvestor

A_Nice_Englishman wrote: »

So, it looks like stocks and shares ISAs are the right vehicle for me. I now need to decide what to buy. I suppose my house and pension are low risk assets so I should be looking at medium to high risk for my ISA investments, subject to being reasonably sure of achieving the cash I need in 13 years time.

How about something like

1.60% lower risk lareg cap UK equities (HYP, equity income funds)
2.15% higher risk small cap equity funds and commodities funds
3.25% cash/gilts/property funds/bond funds.The latter 3 are income stalwarts for older people but are not doing well at present so I would tend to keep this portion in cash for the time being.

This kind of mix should see you into retirement as well without much adjustment needed. It's a "balanced" strategy (believe it or not!)

A "cautious" strategy would involve merging high risk category 2 into low risk category 3.

Jake'sGran

I have invested in various funds for growth and income. The income one that an awful lot of people are putting money into is Invesco Perpetual Income or I P High Income. They also do I P Income and Growth. You don't need to take any income from these funds but can do when the time comes. Therefore, at the beginning you would buy the Accumulation shares in which the income earned is reinvested into more shares. You can check various sites to check the performance e.g. Moneyextra, Trustnet, iii, and many others. with some the the performance checking sections are very easy to use.

It's important too to consider your attitude to risk if you decide to buy funds.
You could split the monthly sum into two or three parts and invest in 2/3 funds. If you use a discount broker the initial charge will be discounted. The one I use is Hargreaves Lansdown a company well known to the regular posters on this forum. In most cases they discount all the initial charge and
return a small amount of the annual commission they get from the fund operator.

The Share Centre are a very nice company to deal with. They have been in business a long time but their discounts are not as good as Hargreaves Lansdown but they will give advice unlike HL.

jamesd

A nice Englishman, see the other side of the HYP. It doesn't match a good equity income fund and as a UK-oriented approach you lose diversification into the global markets. So UK-centric people may have been groaning about poor performance over the last few months, while those with a good global range were gaining from record and near-record levels in many other markets, from the US through Brazil, India, China and other Asian markets.

I suggest that you read Ok then - How do I choose a S&S ISA to get an idea of what a sector allocation is and how you handle various aspects of fund investing. Note that most of the fund collections given by people in that discussion are at the higher end of the fund risk spectrum. Here's a direct link to the post with the Watson Wyatt allocations for medium and high risk.

On the pension side, you can pay up to your total annual salary into a pension each year so one option is to transfer in other investments in the final few years when things look certain, just to get the pension tax relief. If your salary has risen to a higher rate tax level at that point, even better for that part. Your 700 a month exceeds the maximum 600 a month for ISA investing next year so 100 a month looks destined for a pension unless you want to pay tax unnecessarily on your investment returns. Doesn't cut your flexibility much and it does provide a useful bit of base income.

Alternatively, if you put the income-producing investments in the ISA and some growth investments outside, you can dodge most tax because of the CGT allowance if you sell and buy something else periodically over the years so you use your annual CGT allowances. Selling one fund and buying another in the same sector is one way to do this without changing your asset allocation.